Table of Contents
ABSTRACT……………………………………………………………………………………....4
INTRODUCTION ...... 5
CHAPTER 1. RUSSIAN-CHINESE COOPERATION IN OIL BUSINESS ...... 9
Russian-Chinese Trade: Oil & Oil products ...... 9
Russian-Chinese Contracts: crude oil supply ...... 12
CHAPTER 2. RUSSIA-CHINA COOPERATION IN COAL BUSINESS ...... 17
Russian-Chinese Trade: Thermal & Coking coal ...... 17
Russian-Chinese Contracts: Coal supply ...... 21
CHAPTER 3. RUSSIA-CHINA COOPERATION IN GAS BUSINESS ...... 24
CHAPTER 4. CHINA AND YAMAL LNG ...... 29
CHAPTER 5. CHINESE COMPANIES ENTER SIBUR ...... 32
CHAPTER 6. CHINA'S POLICY TOWARDS THE NORTHERN SEA ROUTE ...... 34
CHAPTER 7. CHINA PARTICIPATES IN OFFSHORE PROJECTS IN RUSSIA ...... 37
CHAPTER 7.1 CHINA’S PARTICIPATION IN OTHER ENERGY PROJECTS IN RUSSIA ...... 38
CHAPTER 8. SILK ROAD ECONOMIC BELT ...... 40
CHAPTER 9. DYNAMICS OF RUSSIA-CHINA ECONOMIC RELATIONS ...... 44
CONCLUSION ...... 52
BIBLIOGRAPHY……………………………………………………………………………....54
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Abstract The report deals with the status of Russia-China relations, primarily economic ones. The main task is to understand how economic co-operation with China develops (primarily in the energy sector), what it is based on and motivated by, how sincere the U-turn to the East is, and whether Russia is doomed to constant switching of its geopolitical priorities from the Western to the East and back. It is important to analyse if Russia is being able to follow a harmonious Eurasian policy when its relations develop with both its Western and Eastern neighbours. The significance and timeliness of this study is obvious: today the future of the global economy and global politics depends to a considerable extent on China’s development. In turn, very important to China is co-operation with Russia. It is a source of reliable supply of energy resources and other raw materials; a significant element of supply chains in the defence industry; an important territory in terms of transport logistics; a market; and an opportunity for investment. Therefore, development of co-operation between Russia and China is a topic of interest not only to these two countries by any means. This is not to mention the fact that particularly the neighbours of Russia and China would like to understand what their partnership will lead to in the medium term. How sincere and long-term it is. Today Russia-China relations are in a very important point. On the one hand, the events of 2014 when the US and Western Europe introduced sanctions against Russia made Moscow count on accelerating co-operation with China. But on the other, Trump’s victory in the US presidential election brought hope for normalisation of relations with the West because it is China that he openly considers the main geopolitical opponent of the US. Debate began in Russia at once over whether Trump will make Russia some offers concerning China and whether they should be accepted. In any case, everyone understands that Russia is an important country to Trump exactly because of the need to develop new policy towards China. However, it is in any case extremely important that Russia’s relations with China develop to a great extent not by themselves, but specifically under the influence of the West. When the West exerts pressure on Russia, Moscow tries to step up co-operation with China, exactly as a reaction. Even in the energy sector, the U-turn to the East began when the EU, historically the main market for Russian energy resources, announced the need to diversify supply of energy resources. In response, Russia dramatically intensified negotiations with China on oil and gas supply. A system of oil pipelines to the east was built and today Russia is the largest supplier of oil to China. The latter, in turn, is the world’s number one oil importer. The construction of a trunk gas pipeline to China is in full swing now and a new LNG project on the Yamal Peninsula, oriented towards China among other markets, is expected to start operating in 2017. However, the energy projects in the east of Russia would not develop at such a rate if Europe had not been set against expansion of the energy dialogue with Russia for political reasons. The report is based on Russian and Chinese official economic and customs statistics; information from reports published by Russian think tanks also dealing with the problem of Russia-China relations; reports by Russian companies trading with China; data published by the International Energy Agency and other international entities specialising in energy matters; and publicly available media reports. Chapter 1 presents an analysis of trade in oil and petroleum products between Russia and China. It describes the structure of Russian export of oil and petroleum products and gives an idea of the role China plays in it. The report discusses competition between Russia and other oil suppliers to the Chinese market, primarily Saudi Arabia and African countries. It shows what has enabled Russia to outstrip its competitors and become the leading oil exporter to China. The history of oil contracts between Russia and China is described in detail and the volumes and terms of supply are presented. The chapter also analyses the structure of Chinese demand based on an analysis of the condition of the Chinese refining sector. Chapter 2 studies supply of Russian coal to China. It contains the structure of coking and steam coal import from Russia and provides an understanding of the share of the Chinese
2 market. Steam coal accounts for virtually 90% of Russian supply, therefore the analysis focuses primarily on this type of coal. Russia’s competition with other suppliers is discussed as well as the structure of Russian contracts and the main Russian companies selling coal to China. The focus of attention in Chapter 3 is co-operation between Russia and China in the gas sector, first of all in terms of supply of gas by pipeline. The chapter describes in detail the negotiations on both the western and eastern routes of gas supply to China. The details of the 2014 contract and the reasons why it was successfully signed are explained. The Power of Siberia project is described: its volume, deadlines, and supply sources. The difficulties of the western route are explained, including an analysis of the geographical distribution of demand for gas in China and competition on the part of Central Asian gas. The chapter also considers opportunities for gas supply to China from Sakhalin. Chapter 4 is dedicated to the Yamal LNG project which must bring Russian liquefied gas from the Yamal Peninsula to the Chinese market. It describes the support given to the project by the state; the acquisition of a stake in the project by Chinese companies; the key difficulties faced by Yamal LNG which will nonetheless send the first tanker with LNG to a foreign market in 2017. Chapter 5 describes the major investment of Chinese companies in Russian petrochemistry, primarily the purchase of a stake in Sibur. You will find in it a detailed Sibur ownership structure and the history of relations between its shareholders and Chinese corporations. Chapter 6 describes both China’s policy towards the Northern Sea Route and the Russian side’s efforts to develop the project. One can learn from it what interest China has in developing this transport route and how quickly Russia can reanimate this artery the use of which began as far back as the USSR period. It also gives an idea about the condition of the Russian icebreaker fleet and the programme to develop it. Chapters 6 and 7 are dedicated to Chinese investment in Russian energy projects: one can learn from it about Chinese corporations’ acquisitions both in energy projects on the continental shelf and in onshore production projects. Chapter 8 analyses the Silk Road Economic Belt project. Russia’s participation in new schemes for freight deliveries from China to Europe and development of high-speed rail communications in Russia with the participation of Chinese companies is a debatable and important subject. Chapter 9 deals with the overall status and dynamics of Russia-China economic relations. One can learn from it the trade balance structure: it describes in detail both export from Russia to China and export of Chinese goods to Russia. There is an obvious imbalance in trade: hydrocarbons account for over 60% of Russian export. Meanwhile, mechanical engineering and textile products play the key role in import from China. At the same time, this structure indicates that the two economies are complementary, which only increases the mutual economic interest of China and Russia. The report shows that economic co-operation between Russia and China is actively developing. Oil export from Russia is growing rapidly, coal shipments remain at a high level, and half of the Power of Siberia gas pipeline has been finished. Military co-operation is also increasingly close: China no longer just buys armaments from Russia, but develops them together with Moscow. Chinese investment in Russia has been made much more actively. Chinese companies have purchased major stakes in serious oil and gas and petrochemical projects. Joint projects have also been started in other sectors of the economy such as mechanical engineering, space, chemistry, and banking; projects are being developed to deliver Chinese freight to the global market through Russian ports. At the same time, in the period of sanctions China has demonstrated itself to be not a political partner as much as a pragmatic neighbour who has decided to earn from the other’s difficulties. That said, there has always been and remains one serious problems in Russia-China relations. Historically, religiously, and culturally, Russia is still much closer to Europe than to
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China. A substantial proportion of the Russian elite sympathise with Europe and consider themselves part of the European establishment. For that reason, it perceives Western sanctions very painfully, but not as a reason for turning away from the West. A considerable part of the Russian elite send their children to study in Europe; they buy property in Europe, spend holidays in Europe, and continue to keep their money in European banks. None of influential Russian politicians buys villas on Hainan or sends their children to study at Chinese higher education institutions or live in Chinese cities. Still, there are strong supporters of closer co-operation with China in the Russian elite. But even for them, partnership with China is a projection of their total distrust in the West. They want closer co-operation with China exactly as an argument in the fight against the West. To this part of the elite turning to China is an attempt to persuade Putin not to listen to the pro-Western part of the Russian establishment and not to reset relations with the US. Putin understands that it is quite unwise to ignore the economic opportunities offered by being the neighbour of the world’s second largest economy. However, he also realises that China’s interest in Russia is exclusively pragmatic. So he will wait for offers from the US administration. Because the main question of modern Russian foreign policy is how to develop a strategy for balancing between the US and China.
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Introduction Relations between Russia and China are in quite a curious state at the moment. The events of 2014 when the US and Western Europe introduced sanctions against Russia made Moscow count on accelerating co-operation with China. It is then that the “U-turn to the East” idea was adopted. The very expression contained a demonstration of the fact that Russia would easily find a replacement for the unfriendly West. And the “East” primarily implied China. The latter imposed no sanctions on Russia, but on the contrary gave Putin serious political support. The visit of China’s President Xi Jinping to Moscow to attend the Victory Parade on 9 May 2015 was particularly symbolic. He was Putin’s main guest and the virtually complete absence of Western politicians only emphasised special political relations between Russia and China. Clearly enough, China had attracted much attention long before 2014. A strategic partnership agreement with the People’s Republic was signed as far back as 1996. Despite the fact that a number of experts considered it geopolitical rather than economic, this is not exactly the case. China has long since been Russia’s largest foreign trade partner. It would be quite unwise to ignore the presence on the eastern border of one of the world’s largest economies (according to some estimates, China has even outrun the United States in terms of GDP at purchasing power parity) which also continues to grow at a fast rate (a decline in the economic growth rate to 6-7% is viewed by many economists as nearly a crisis, but the overwhelming majority of countries around the world can only dream of such growth). China consumes huge quantities of imported resources. Thus China has outrun the US and become the world’s largest oil importer on an annual basis. Oil consumption in the country increased by 2.8% to 556 million tonnes in 2016. The share of import in the structure of oil used by China in 2016 increased by 65%. The construction of the Eastern Siberia – Pacific Ocean oil pipeline which was meant primarily for the Chinese market began as far back as 2006. The first oil supply contracts with China were signed before Western sanctions. Rosneft, Transneft, and CNPC signed the first contracts in 2009. And in 2011 Russia began to use the Skovorodino-Mohe pipeline for supplying oil to China. Gas contracts were also actively discussed (it was by no means impromptu or without lengthy prior consultations that the agreement on building the Power of Siberia gas pipeline was signed in May 2014) Routes were discussed to deliver Chinese goods to European markets through Russian territory. Also, high-speed service was considered. For example, the decision to build a high-speed railway between Moscow and Kazan by 2018 was announced by Putin as far back as 27 May 2013. The railway was viewed as a section of a Beijing-Moscow transport corridor. However, it was not until 2014, of course, that our relations received a new stimulus. The first contract for pipeline supply of gas was signed. Oil supply was growing rapidly. In 2016, supply of oil from Russia to China grew approximately by 25% reaching 52 million tons, according to the Chinese General Administration of Customs. This enabled Russia to become the largest supplier of oil to China outperforming Saudi Arabia. China also became the largest national market for Russia in 2015 when it outran Germany as the largest buyer of Russian oil. (In 2015 Russia sent to China 38 million tons while for example to Japan 14.5 million tons and to South Korea - 12.3 million tons). According to Russian statistics deliveries in 2016 were slightly lower - 48 million tons per year. Still, every year a fantastic growth. Russia supplied China with a total of 95 million tonnes of crude oil by the Skovorodino-Mohe-Daqing oil pipeline alone. To be sure, this figure is still not that impressive against a background of supplies to the EU. The share of China in Russian crude oil export is about 14%. Plus virtually no petroleum products are supplied to China, while they are supplied to the EU on quite a large scale. (Supply to China was 7.1 million tons in 2015 which is even less than to South Korea - 7.4 million tons. Supply to European Union is rather ambitious – only to the Netherlands Russia delivered 41 million tons in 2015). In total, Russia’s energy export to
5 the Asia-Pacific region is already 15%, the share of China being extremely significant. The official target is to push this figure to 40% during the next 20 years. But most important of all, Chinese investment in Russia has become much more active. Just like Chinese companies. The Chinese have started to buy major stakes in serious oil and gas and petrochemical projects. A deal for China’s Sinopec to buy 10% in the largest Russian petrochemical company, Sibur, was closed in December 2015. China’s Silk Road Fund purchased another 10% of Sibur at the beginning of 2017. The same fund purchased 9.9% in the Yamal LNG project. CNPC has another 20% in this liquefied gas production project. Rosneft hopes to see ChemChina as a shareholder in Eastern Petrochemical Company (EPC). With ChemChina the Russian company has agreed to distribute shares in the EPC project which suggests building a petrochemical complex in the Far East and its proportional financing. Under the agreement, the Russian company may transfer 40% to the Chinese, keeping the other 60%. Joint projects have also been started in other sectors of the economy such as mechanical engineering, space, chemistry, and banking; projects are being developed to deliver Chinese freight to the global market through Russian ports. The main emphasis has been placed on the defence industry: Russian companies have not just become weapons suppliers to China, they have been included in the supply chain to manufacture armaments and they co-operate increasingly actively with Chinese corporations both as research and development contractors and as suppliers of important components for Chinese military hardware. There is, however, one serious problem in the relations between Russia and China. Historically, religiously, and culturally, Russia is still much closer to Europe than to China. Chinese culture is exotic to Russia; Moscow, St Petersburg, and many other large Russian cities are very much like European cities and totally unlike Asian ones. Indeed, ideas of “Eurasianism” and even Russia’s “special way” are very popular in Russia, but Europe is still much easier to understand for a Russian person. This is so despite frequent political conflicts and heavy sanctions against Russia. But much more importantly, a substantial proportion of the Russian elite sympathise with Europe and consider themselves part of the European establishment. For this reason, it perceives sanctions very painfully, but not as a reason for turning away from the EU. Russian policy towards the EU is quite dramatic. We have more than once offered the EU closer co- operation. In fact, Putin also began his presidency with this. However, Europe does not see Russia as an equal partner, which Moscow perceives very painfully. This is also what they think to be the reason for the 2013-2014 events, believing that the West simply got scared to see Russia grow stronger. However, strange as it might seem, this does not result in the Russian elite turning away from Europe and becoming oriented towards China. A considerable part of the Russian elite send their children to study in Europe; they buy property in Europe, spend holidays in Europe, and continue to keep their money in European banks. Even those on blacklists visit Europe with pleasure, making up various official reasons for that. Indeed, sanctions are an upsetting experience, but no one transfers their accounts to Chinese banks, or sends their children to study at the Beijing University, or go on holidays to Hainan. Law enforcement and security agencies and elite group close to them, like the clan of Igor Sechin, head of Rosneft, remain perhaps the only exception. The hardliners historically perceive the US and the West in general as an enemy, which is in many respects an ineradicable legacy of the Cold War to them. In this respect, the hardliners believe that the West must not be trusted under any circumstances: it is and will always be a strategic opponent. Meanwhile, China is perceived as an ally in the fight with the West. The Rosneft chief executive, Sechin, is perhaps the most influential lobbyist in Russia today promoting development of relations with China. It was he who played an important part in the signing of the first oil contracts with the People’s Republic. Today Rosneft is not only the main supplier of oil to China, but seeks to expand its export to the country.
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Now, however, there is a new test awaiting Russian-Chinese relations. The test in question is the beginning of Donald Trump’s presidency. It is China that he sees as the main opponent of the US, which is quite logical. There is simply no other force on a comparable scale in the world. Therefore, economic competition, competition in terms of social values, and eventually political and military competition with China is almost inevitable, no matter how closely the US and China are connected economically. Trump will indeed be motivated by the fact that China is the main opponent of the US. This differs fundamentally from idea of “Chimerica”: it suggested that the US and China would more likely become co-rulers of the world, but here the US is not going to tolerate a competitor and intends to act openly to weaken it. This is the true world view of Trump. China, by the way, already feels this. During the last few years the United States were pushing Russia towards China. The conflict between the US and Russia finally resulted in serious acceleration of Russian-Chinese partnership, even though not everything is unclouded there by any means. But Russia simply had no other choice. As for China, it derived obvious benefits therefrom: stable supply of energy and other resources, logistic capabilities, a number of technologies (primarily in the defence industry), and stronger influence over the former Soviet republics. Perhaps the Obama administration expected that the government in Russia would change quite quickly and the about-turn towards China would then be stopped and China would be left with unrealised plans and false hopes. One should think the Republicans stick by a different thesis: waiting for change of government in Russia is too dangerous, China must not be given such a head start. Russia must be dragged away from China. Among other things, by means of relaxing pressure on Russia. This is something a considerable proportion of our elite are really anxious for. Therefore, as Trump assumes office as president, Russia is waiting for proposals Trump will make to weaken Russian-Chinese co-operation. The pro-Chinese part of the elite who, though a minority, nonetheless have a presence in the Russian political and bureaucrat spectrum are trying actively to cement the idea that radical changes concerning China would be dangerous. They say that decisions concerning China must not be made only because there is a new president in the US; that US presidents change often, while China will not forgive change of our attitude towards it; that the West must not be trusted all the same; and so on. Obviously enough, such thesis must first of all convince Putin to abandon too radical steps changing our policy towards China. And most likely, Putin does not play a radical about-turn. However, Russia is gaining an opportunity to balance between the interests of the US and China. At the same time, it is obvious that over the last three years China has had an opportunity to show that it is a reliable partner for Russia. Most likely, however, China has missed it, in spite of acceleration of co-operation processes. China first of all decided to earn from Russian difficulties, showing once again that it is hard to negotiate with. For example, the restrictions on obtaining money in the Western capital market were used by China to raise the interest rates on its loans. Many Russian companies were surprised to find out that China increased the price of loans. China declined a number of interesting projects or consciously laid down too strict requirements for them. Illustratively, this concerned even projects proposed by pro-Chinese elite groups. For example, Igor Sechin wanted very much Chinese companies to take part in the privatisation of the 19.5% of shares in Rosneft. Quite unexpectedly for Sechin, however, the Chinese corporations laid down special requirements: special rights to take part in managing the company and strategic decision-making. As a result, the shares were sold to Swiss- based Glencore and Qatar Investment Authority. The Chinese never bought the stake in Vankor offered to them (eventually, it went to the Indians and this is actually a very valuable acquisition). The deal for Beijing Gas Group to buy 20% in Verkhnechonskneftegaz has not been closed to date, though Rosneft has prepared the deal for many years. Thus the Russian-Chinese relations have come to yet another fork. Clearly, no one will make radical decisions. However, the fact that three years of Western sanctions have not resulted
7 in a dramatic improvement of trust between Moscow and Beijing, that the Russian elite has not become “Sinophile” over this period may prove very important as the future of our partnership is determined. Furthermore, we have not come to understand each other better over this period: Russia and China are still very far from each other culturally and the level of understanding of the neighbour is very low both in Moscow and Beijing.
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Chapter 1. Russian-Chinese cooperation in oil business
Russian-Chinese Trade: Oil & Oil products
Figure № 1: Russian oil export by countries Figure № 2: Russian oil products export by countries
* прав. шкала искл. Тайвань *excl. Taiwan
*excl. Taiwan
Figure № 3: Chinese oil import by countries Figure № 4: Chinese oil import: main players
9 Sources: FCS; GAC; Bloomberg; NESF analysis
According to Russia’s feedral customs service and energy ministry, over 40m tons of crude oil was exported to China in 2015. The share of China in Russian oil exports grew from 5% in 2007 to 16% in 2015. Thus, China has become the second largest destination of Russian oil exports trailing the Netherlands (18%). The strategy of the Russian oil and gas sector development stipulates reorientation from the European market to Asian markets, China, Japan and South Korea in particular. However, the main driver of growth in this region is the Chinese economy. The situation regarding exports of petroleum products is different: their main consumers are the Netherlands (24% of the total exports of oil products)), Italy (9%) and Latvia (7% of total exports of oil products). Just 7.133m tons of them was delivered to the PRC in 2015, which accounted for 4% of the total volume. A peculiar feature of the Chinese market is that the country has significantly expanded its oil refining capacities lately, including high degree processing and hydro-treatment capacities. Moreover, the role of independent small refineries, known as ‘teapots’, has increased lately. Because of their large number, Chinese teapots drove the demand for crude in early 2016. In 2015 independent refineries received the right to import oil directly, not to buy it at fixed and often overstated prices from state companies, which left China’s domestic market unaffected by fluctuations in world oil prices (the time lag was several months). The lifting of the ban on direct oil imports increased exports of Chinese oil products, largely diesel fuel. According to the General Administration of Customs (GAC) of the People's Republic of China, the share of Russia in the structure of oil imports was 12% in 2015. Saudi Arabia is the main oil supplier with a 14% share on the market; the share of Angola was 11% having reduced from 16%. The fourth largest oil supplier to China was Iraq (9%). China became the main market for Iran after introduction of European sanctions, but its share in Chinese oil imports dropped from 12% in 2008 to 8% in 2015. Taking into account the decline in oil demand in Europe, the Asian market is more promising for expansion of Russian crude supplies. However, due to the oil oversupply on the world market, the struggle for its main consumer, China, is sharpening.
Figure № 5: Fight for the Chinese market: Saudi Arabia vs. Russia
Sources: Bloomberg; GAC; NESF analysis
In September 2015 Russia for the first time outpaced Saudi Arabia in monthly oil supplies, and in 2015 left Angola behind by almost 4m tons making the African country the third largest oil supplier to China. It is important to point out that in the period from March to May 2016 Russia was supplying more oil to China than Saudi Arabia. Russia delivered some 5.24m tons of oil to China in May, which is the largest amount ever in the bilateral trade. Nevertheless, in June
10 and July 2016 Saudi Arabia returned to the position of the top oil supplier having exported 4.58 and 4.024m tons to China against 4.107m and 3.227m tons respectively by Russia. Moreover, because of the growing demand, Saudi Aramco sharply increased the official selling price for Asia in October, which affected heavy oil (Arab Medium + $0.95 per bbl and Arab Heavy +$0.70 per bbl, compared to the September price) and light oil (Arab Extra Light, Arab Super Light and Arab Light +$0.90 per bbl compared to September). However, prices of all types of oil for European consumers in the Mediterranean region simultaneously eased back. Major part of oil exported by Russia to China is light ESPO oil that is more competitive against high-sulphur and heavier oil from Saudi Arabia, Iran and Iraq. The exception in Russian exports is 7m tons of oil per year supplied under a contract with Rosneft through a transit pipeline in Kazakhstan and about 1.68m tons per year shipped from the seaport of Novorossiysk following tenders held every six months. Decline in world oil prices promoted demand for better oil: Asian consumers prefer buying ESPO instead of Arab oil amid reduction in their price difference. However, Girasso oil shipped by Angola is also light, and its quality is comparable to that of Arab Extra Light and Arab Super Light. Thus, on the spot market a lower price is the main competitive advantage over other types of oil of similar parameters. Making contracts is the best way to continue expansion onto the Chinese market: in 2015 about 66% of Russian crude was supplied under earlier sealed contracts – 95% of them were long-term agreements between Rosneft and CNPC. However, the process of making such contracts is long and complicated. Besides, Chinese companies are not always ready to prolong such memorandums, especially amid low oil prices caused by excessive supply.
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Russian-Chinese Contracts: crude oil supply Figure № 6: Rosneft’s crude oil export to China
under transporting species, 2015 Figure № 6: Rosneft’s crude oil flows to China by
transportation type, 2015
Figure № 8: ESPO oil deliveries to China via. Kozmino (January - June 2016)
Figure № 8: ESPO oil deliveries to China via. Kozmino Figure № 7: Rosneft’s crude oil export to China Figure № 7: Rosneft’s crude oil export to China (January - June 2016) under long-term contracts under long-term contracts
Sources: CDU TEK; company filings; Reuters; NESF analysis
Sources: CDU TEK; company filings; Reuters; NESF analysis 12
The only Russian company that has long-term contracts with China is Rosneft; its partner is China National Petroleum Corporation (CNPC). They made their first contract on supplies of 48.4m tons of oil in a five-year period in 2005. Some 8.9m tons of oil was delivered by railway every year. Construction of the Eastern Siberia-Pacific Ocean (ESPO) pipeline began in 2006: Transneft and CNPC signed a protocol of intent to build an ESPO branch to Daqing, China. In October 2008 an additional agreement on laying the Skovorodino-Mohe oil pipeline (through Mohe to Daqing) was sealed. The first section of ESPO from Taishet, Irkutsk Region, to Skovorodino of 30m ton capacity per year was launched in 2009. On 28 December 2009 Rosneft shipped the first tanker loaded with Vankor oil from the port of Kozmino: this oil was pumped to Skovorodino, and from there it was delivered to the port of Kozmino by railway. In 2009 two contracts were made between Rosneft, Transneft and CNPC: in February a contract on deliveries of 9m tons per year, and in April on supplies of 6m tons per year through ESPO for a 20-year period with deliveries beginning in 2011. The total amount of oil to be delivered by 2030 under the 2009 contracts is 300m tons. Russian companies also received a $25bn credit; Rosneft planned to invest $15bn of it in development of deposits, including deposits of tight reserves; Transneft was to use $10bn to build and expand the ESPO. The Skovorodino-Mohe pipeline of 15m ton annual capacity was put into operation on 1 January 2011. The Skovorodino-Kozmino pipeline (the second line of ESPO-2) was launched on 25 December 2012 – ahead of the schedule. Some 15.3m tons of oil was exported through Kozmino in 2015; by 2018 supplies are to rise to 24m tons. In June 2013 an additional agreement between Rosneft, Transneft and CNPC was signed on supplies of 325m tons of oil in 2013 to 2038 payable in advance. The oil under this contract is to be pumped through the Skovorodino-Mohe pipeline in the following amount: 800,000 tons from 1 July 2013 to 31 December 2013; 2m tons from 1 January 2014 to 31 December 2014; 5m tons from 1 January 2015 to 31 December 2017; Up to 15m tons from 1 January 2018 to 31 December 2037; 7.5m tons from 1 January 2038 to 30 June 2038.
To increase the volume of oil pumped through Skovorodino-Mohe to 20m tons per year by 2015 and 30m tons per year by 2018, Russia is to create conditions for timely renovation and expansion of capacities of the branch pipeline, while China is to apply similar measures to the Mohe-Daqing oil pipeline before 1 January 2018. CNPC officially declared that in June it planned to start laying the second line of the interconnector from the ESPO to Daqing in China. The company planned to finish construction in October 2017. Nevertheless, there is a risk that the Chinese side will fail to complete the Mohe-Daqing pipeline’s second line on time. Meanwhile, Transneft assures that by the end of 2017 the Skovorodino-Mohe pipeline will be ready to pump 30m tons of oil per year in accordance with the initial plan. In 2015 some 16m tons of oil was pumped through this pipeline. In 2016 some 16.5m tons of oil is to be delivered to China. Transneft plans to increase the ESPO capacity from the current 58m tons per year to 80m tons per year. The oil pipeline is to pump oil produced at large deposits situated in the Krasnoyarsk Territory, the Irkutsk Region, Yakutia and the Yamalo-Nenets Autonomous Area. Major part of these deposits is operated by Rosneft.
Table 1: ESPO Resources Current recoverable reserves (mln Start of Deposit Operator tons) in 2015 production Region Vankor Rosneft 476 2009 Krasnoyarsk
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Yurubcheno- Tokhomskoye Gazprom Neft, Rosneft 350 2018* Krasnoyarsk Verkhnechonskoye Rosneft 173 2008 Irkutsk Srednebotuobinskoye Rosneft, CNPC 167 (C1+C2) 2014 Irkutsk 123.6 Talakan Surgutneftegas (C1+C2) 2008 Yakutia JV Slavneft of Rosneft and Gazprom Neft Kuyumbinskoye 305 (C1+C2) 2017 Krasnoyarsk Suzunskoye Rosneft 56 2016 Krasnoyarsk Tagulskoye Rosneft 286 2020** Krasnoyarsk Lodochnoye Rosneft 60 2017 Krasnoyarsk * initially in 2016 ** initially in 2017 Source: IEA, data of companies, NESF calculations
To ensure utilization of ESPO capacities it is planned to launch two big projects. In November 2016 the Zapolyarye-Purpe oil pipeline was to be launched of up to 45m ton capacity per year (it is to pump 1.2m tons in 2016, 9.5m tons in 2017); it connects deposits in the north of the Krasnoyarsk Territory, e.g. Suzunskoye and Tagulskoye, and in the YNAA with Russian oil refineries and the ESPO. However, Rosneft has many times requested to delay the pipeline’s launch and to reduce the planned volume of oil transmission, because using the pipeline in the current economic situation does not look very attractive. Moreover, the planned beginning of production at some deposits, e.g. Tagulskoye, was postponed due to reduction in investments in its development. Moreover, Transneft may face similar problems with the Kuyumba-Tayshet oil pipeline of 15m ton annual capacity: its stage 1 is planned for launch in Q4 2016 at 8.6m ton annual capacity; phase 2 of 15m tons is to start in 2023. By 2018 oil transmission along this route is to reach 1m tons per year. This project is aimed at adding the Kuyumbinskoye and Yurubcheno-Tokhomskoye deposits in the Krasnoyarsk Territory to the pipeline system. However, Rosneft requested to postpone the launch of Yurubcheno-Tokhomskoye by two years from 2016 to 2018 over the same reasons as Tagulskoye. In 2013 an accord was signed on supplying additional 7m tons of Urals oil per year in a five-year period to China’s refineries in the west of the country through Kazakhstan under swap deals. Kazakhstani partners are KazTransOil and KazMunayGas, which does not make Transneft very happy. According to the signed agreement, annual transit can be increased to 10m tons, but it will require expansion of the throughput capacity. Moreover, the document stipulates a possibility of prolongation of supplies by another five years. However, China does not always implement such provisions acting in line with the market situation. A bright example is contracts with ChemChina. In 2015 Rosneft signed a contract on supplies of 2.4m tons of ESPO oil to ChemChina in the period from August 2015 to July 2016. According to Reuters and Argus, Rosneft every month made two shipments of 100,000 tons from Kozmino. At the Petersburg International Economic Forum in 2016 Rosneft and ChemChina signed a new contract on supplies of 2.4m tons in the period from August 2016 to July 2017, not 4m tons annually for a three-year period as it had been expected. In January to June 2016 the share of shipments to ChemChina by Rosneft through Kozmino was 26.4% of the total volume of oil sold by the company. Small producers and Gazprom Neft under spot deals supply about 33% of Russian oil purchased by ChemChina. In other words, there is no guarantee that next year Rosneft will manage to expand supplies to ChemChina or preserve the current amount of 2.4m tons. Amid oversupply of oil on the global market, competition for the Asian market is sharpening, which puts China into a privileged position. In the future China may be more selective and reluctant to sign long-term contracts. In October 2013 Rosneft and Sinopec signed a memorandum on making another export contract on 100m tons for a ten-year period with
14 supplies beginning in 2014 and a possibility of partial replacement of oil with supplies of petroleum products. However, on 28 May 2014 Sinopec declared about prolongation of preparations for this contract. According to the analysis of data of companies and Reuters, supplies never began. In the period from January to June 2016 Rosneft shipped about 600,000 tons of ESPO oil to Sinopec’s trader under spot deals; in Q4 2013 it started shipping about 1.68m tons of Urals oil per year through Novorossiysk (a standard shipment is 140,000 tons per month). According to available data, there have been no additional supplies of 10m tons per year. Moreover, Unipec buys major part of Russian oil from Surgutneftegas, but there is no information about long-term agreements on supplies with this company – oil is probably supplied on the basis of tenders. In 2015 Rosneft exported 30.2m tons of crude oil to China, including 26.6m tons under long-term contracts with CNPC. ESPO oil was pumped through the Skovorodino-Mohe pipeline (53% of the company’s total exports to China); Urals oil was pumped through Kazakhstan (23% of total exports). The remaining amount of ESPO oil under a 25-year additional contract of 2013 was shipped through the port of Kozmino (12% of Rosneft’s total exports to China). Some 300,000 tons of Rosneft’s ESPO oil is shipped to China from Kozmino every month on average. Coupled with gradual expansion of the pipeline’s throughout capacity (some 16.5m tons is to be pumped in 2016), oil quantities redirected to the port form the necessary 5m tons of oil matching the 2013 contract schedule. In 2015 oil supplies were about 400,000 tons less than planned under the 25-year contract, but this year it can be offset by supplies through Kozmino. Nevertheless, in 2018 the port will not be able to compensate the oil pipeline’s capacity, which may prevent suppliers from delivering the necessary amount of oil. However, it is necessary to admit that Russia is ahead of China in building the export pipeline. The remaining amount of oil exports by Rosneft to China falls on the ports of Kozmino (a contract with ChemChina; ESPO; 4% of the total oil exported by the company to China) and Novorossiysk (based on tenders for Unipec; Urals; 5.6% of the total oil exported by the company to China); besides, oil supplies by railroad from Meget through Mongolia have begun. Under current contracts (long-term and short-term with ChemChina) Rosneft’s exports to China should be about 29.4m tons in 2016. An additional 1.68m tons of Urals oil will be supplied under six-month tenders of Sinopec (through its trader Unipec). Thus, Russia will surely export 31.08m tons of oil to China this year, excluding spot supplies and deliveries by railroad. Nevertheless, in 2017 exports may become smaller: the current contract with ChemChina is valid until mid 2017, and it has not been prolonged; a tender on selling Urals oil in Novorossiysk is also valid until mid 2017. In 2018 maximal supplies of 30m tons per year under two (three de jure) major contracts sealed in 2009 and 2013 should begin; some 7m tons of Urals oil will be shipped through Kazakhstan (their increase to 10m tons is unlikely, as it requires expensive upgrade of the oil pipeline). After 2018 only 30m tons of oil will be exported annually under long-term agreements with CNPC. There is no information whether CNPC wants to prolong supplies of Urals oil totaling 7m to 10m per year – it will largely depend on the market conjuncture and pricing policies of competitors. The 2009 contract with CNPC expires after 2030 cutting guaranteed exports by half. Other Russian oil companies do not have long-term contracts with China; they use mainly the port of Kozmino for their exports. The share of China in the total volume of oil shipped through the port is 50%. Russia’s second largest oil exporter Surgutneftegas sells major part of its oil to Unipec that buys oil not only for its parent company Sinopec but also for other refineries. In January to June 2016 Gazprom Neft sold just some 500,000 tons to its main buyers ChemChina and Unipec. In December 2015 Gazprom Neft and CNPC signed a memorandum of understanding. According to the document, the Russian company plans to sell about 1m tons of oil for yuans. In 2014 the company supplied 740,000 tons of crude to the PRC. Moreover, its subsidiary Gazpromneft-Lubricants Ltd is considering a possibility of developing production of lubricants
15 in China. In early September 2016 Gazprom Neft proposed China’s CNOOC to develop offshore deposits in the Arctic, the Severo-Vrangelevsky and Kheisovsky blocks in particular. However, CNOOC is unlikely to get seriously interested in this proposal. The Chinese company has limited experience of operation in Arctic conditions, and development of such deposits amid low oil prices is not attractive. The H1 2016 results of CNOOC were substantially worse than of other Chinese oil and gas firms, because it does not have a developed downstream segment, unlike more successful Sinopec. An offshore project in the Arctic at the geological prospecting stage will be additional burden for CNOOC. The company that is eager to reduce its expenditure is unlikely to get interested in such a project. Thus, despite China’s focus on imports (with current world oil prices it is more profitable to import and refine oil than to develop domestic tight reserves), the current conjuncture on the market will not help conclude long-term contracts on oil supplies in the near future. Large Chinese traders like Unipec are more interested in buying oil on the spot market following prices of benchmarks. Independent refineries are unlikely to be interested in making contracts on large crude quantities. Small participants are likely to buy low-sulphur light oil like ESPO or African oil. There will be no certainty about prolongation of current contracts between Rosneft and CNPC.
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Chapter 2. Russia-China cooperation in coal business
Russian-Chinese Trade: Thermal & Coking coal Figure № 10: Chinese coal import by countries Figure № 9: Russian coal export by countries
*excl. Taiwan Figure № 12: Chinese coking coal import by countries
Figure № 12: Chinese coking coal import by countries Figure № 11: Chinese thermal coal import by countries
17 Sources: FCS; GAC; Bloomberg; NESF analysis
In 2015 Russia exported 152.67m tons of coal. South Korea was the main destination of these exports (13% of total exports); it was followed by Great Britain (11%) and China. According to customs authorities of Russia and China, in 2015 Russia shipped approximately 16m tons of coal to China, which corresponded to 11% of total exports. It is necessary to mention that after coal imports reached their peak of 327m tons in 2013, they fell to 291m tons in 2014 and 204m tons in 2015. Such drastic changes are the result of government policies aimed at reducing carbon dioxide emissions. This problem is critical for such large cities as Beijing where lung cancer is one of the most common causes of death, according to unofficial reports. This is why China is more and more focused on renewable sources of energy, first of all wind energy widely spread in the offshore part of China, and solar energy. These changes in China’s energy strategy affected its share in the structure of Russian exports: it retreated from 18% and 17% (27m to 25m in 2013 and 2014 respectively) to 11% in 2015. Moreover, China stopped being the largest destination of Russian exports. The same situation is observed in Great Britain where coalmines are suspended under a state program. Nevertheless, the Asia Pacific region remains the main direction for Russian coal exports. The most promising markets are South Korea (Mechel and Raspadskaya have long-term agreements with Hyundai Steel and other S. Korean partners), China and Japan (Mechel has a three-year contract until August 2018 with JFE Steel on supplying 1m tons of coking coal per year). The shares of Japan and South Korea in Russian exports have been growing, contrary to China’s that is easing back.
Figure № 13: Russian coal export structure by type. China's market share
Sources: FCS; GAC; Ugol Magazine; NESF analysis
The main type of coal exported by Russia is thermal coal that accounts for about 87% of total exports. Coking coal, despite small quantities of exports (19.5m tons in 2014) is mostly exported to China (up to 40%). Thermal coal accounts for about 15% of total exports to China. However, these figures do not prove that the Chinese direction is more promising for coking coal – it is a low base effect, because total quantities are not significant. In 2014 exports of coking coal were 5.76m tons, compared to 19.55m tons of thermal coal. Although Russia is the third largest coal exporter after Australia and Indonesia, Russia is no longer the top market for China. Due to sharp rise in thermal coal imports from North Korea by 27% in 2015, its share in total imports rose to 10%, while the share of Russia dropped to 8%. Main suppliers of coal to China are Indonesia (36% of total imports, 73m tons in 2015) and Australia (35%, 71m tons in 2015). Indonesia exports thermal coal (brown coal and anthracite)
18 of low calorific value, sulphur and ash contents. In the structure of Chinese imports of thermal coal Indonesia accounted for almost 47% in 2015. Australia supplies thermal (29% in the structure of Chinese imports of thermal coal in 2015) and coking coal (54% in the structure of Chinese imports of coking coal in 2015). Regulations banning imports of high-ash and high- sulphur coal came into force in 2015. Although major part of coking coal in Australia does not meet new requirements (it has to be processed, which increases the price of the final produce of a lower ash content), its share in the total structure of imports grew from 50% in 2014 (before the ban was introduced) to 54% in 2015 when the ban came into force.
Table № 2: Restrictions on import of coal to China (from 2015) BAN ON OUTPUT, SALES, TRANSPORT AND IMPORTS OF ALL COALS Specification Lignite Other coals Energy N.A N.A Ash ≤30% ≤40% Sulphur ≤1,5% ≤3% RESTRICTIONS ON COAL TRANSPORTED MORE THAN 600 km Specification Lignite Other coals Energy 3,941 kcal/kg 4,300 kcal/kg Ash ≤20% ≤30% Sulphur ≤1% ≤2% RESTRICTIONS ON COAL USE IN COASTAL AREAS, NORTHERN CITIES
Specification Energy N.A Ash ≤16% Sulphur ≤1% Source: Reuters; National Development and Reform Commission (NDRC)
Supplies of Russian thermal coal (9% in the structure of Chinese imports of thermal coal) dropped from 19.5m tons in 2014 to 12.5m tons in 2015. Last year Russia was no longer the third largest supplier of thermal coal following significant growth in imports from North Korea (from 7% to 13% in 2015). The presence of Russian exporters on the coking coal market is also shrinking: their market share dropped from 11% in 2013 to 7% in 2015, which was 8.44m and 3.22m tons respectively. Thus, since 2013 Russia has been outpaced by its competitors Indonesia and Australia.
Table № 3: Characteristics of the main coal benchmark (primarily for asian power plants), 2014 Energy Export coal benchmark (kcal/kg) Ash (%) Australian thermal export coal benchmark 6,000 12-14 Australian thermal export coal secondary benchmark* 5,500 20 Indonesian thermal export coal 4,500-5,500 2-10 South African thermal export coal 6,000 15 Russian thermal export coal 6,500 10-25 Indian domestic thermal coal 4,400 25-45 * coal of lower quality Source: Institute for Energy Economics and Financial Analysis (IEEFA)
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It is rather difficult to struggle against competitors, first of all against low sulphur, low ash and low calorific Indonesian coal, and high calorific but higher ash Australian coal. First class Australian thermal coal has higher calorific value, which means approximately 20% less coal is required to burn to produce electrical energy. However, ash content in Indonesian benchmark coal is half as low, which means lower emissions. In other words higher energy efficiency of Australian coal is less attractive for China compared to environmental advantages of Indonesian coal. Russian thermal coal is comparable to Australian and American coals in terms of calorific value and ash content. The only positive signal for Russian exporters is the ban on imports of coal, iron ore and rare-earth metals from North Korea, but it will not change the situation significantly. Besides the fact that Russia’s fuel is not of high quality, the problem is that Russian coal producers do not have big long-term contracts with China to compete for this market.
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Russian-Chinese Contracts: Coal supply Table 4: History of signed* contracts on coal exports to China
Volume Year of (mln Start of End of conclusion tons per Duration supplies supplies Company Type of coal Partner year) (years) Contract amount Additional conditions In August 2010 China allocated $6bn China Datang October credit guaranteed by supplies of 15m 2010 SUEK Thermal Corporation 1 1 2010 October 2011 Monthly pricing to 20m tons of coal per year 2013 Mechel Coking Baosteel Resources 0.96 1 April 2013 March 2014 Monthly pricing Prolongation is possible * 0.48- 2013 Mechel Coking Shasteel Group 0.96 Unlimited June 2013 - Monthly pricing 2014 Mechel Coking Baosteel Resources 1.2 1 April 2014 March 2015 Monthly pricing Prolongation is possible * 2015 Mechel Coking Baosteel Resources 1.4 1 April 2015 March 2016 Monthly pricing Prolongation is possible * Additional contract is possible on coal 2015 Mechel Thermal Jidong Cement 0.96 - 1 1 April 2015 March 2016 Monthly pricing supplies 2016 Mechel Coking Baosteel Resources 0.96 - 1 1 April 2016 March 2017 Monthly pricing Prolongation is possible * extension of agreement
Figure № 15: Export of Russian coal to China: plan vs. fact Figure № 14: Major Russian coal exporters
* estimated
Sources: FCS; GAC; company filings; Bloomberg; Ugol Magazine; NESF analysis
*1H 2015 21
In 2014 some 43% of the coal produced was exported. In H1 2015 (the latest data available) the share of exports was 42%. Main exporters in Russia are SUEK (27%), UMMC’s subsidiary Kuzbassrazrezugol (about 20%), SDS-Ugol (14%), and Mechel (about 8%). As far as the Chinese direction is concerned, the leading exporters there are SUEK (thermal coal), Mechel (largely coking coal and thermal coal) and Raspadskaya of Evraz (thermal and coking coal). On 24 June 2009 China and Russia signed a memorandum of understanding on cooperation in the coal sphere. Russia-China relations in the sector stipulated participation in development of new deposits, supplies of mining and other equipment. In August 2010 China allocated a $6bn credit guaranteed by coal supplies. According to the plan, in 2011 to 2015 Russia was to export 15m tons of coal per year and at least 20m tons per year later. In September 2010 SUEK signed an agreement with China Datang Corporation on supplies of 1m tons per year (from October 2010 to October 2011), which was a good start for relations. In 2012 exports to the PRC exceeded 20m tons, and their peak of 27m tons was in 2013, which was above the volume stipulated in the MoU. However, following changes in China’s energy policy, in 2015 Russian coal exports dropped to just slightly over 15m tons. According to government agreements, as of 2016 Russia is to export at least 20m tons of coal to the PRC, but the current market conjuncture suggests that preserving 15m to 16m tons would be the most positive variant. The increasing competition with Australia and Indonesia, coupled with the lack of long-term contracts, does not guarantee supplies of fixed quantities of coal. All agreements sealed with China do not exceed one year; contracts with other Asia Pacific partners are medium-term (from three to five years). Moreover, contract prices are not fixed; they are set on a monthly basis depending on market conditions. In other words, Asian buyers want contracts to follow spot prices. It concerns both Figure № 16: Main producers of coking coal in thermal coal and coking coal. Russia
Main producers of coking coal in Russia are Evraz (25%), Mechel (16%) and Severstal (13%). SUEK accounts for just about 6% of total coking coal output. It is necessary to admit that the Russian market of coking coal is in depression; this is why its major producers are simultaneously its main exporters. Mechel exports the largest part of its produce – main buyers are in the Asia Pacific region. The company is more successful in selling coking coal to China by signing contracts every year with an option of prolongation. In 2013 Mechel signed an agreement on supplies of 960,000 tons per year with Baosteel Resources until March 2014, Sources: company filings; Ugol Magazine; and it prolonged the contract in 2014. NESF analysis The new accord stipulated deliveries of 1.2m tons per year, and in 2015 contracted quantities grew to 1.4m tons. The latest prolongation obliges Baosteel to buy up to 1m tons in the period from April 2016 to March 2017. In 2015 Mechel sealed a year-long contract with Jidong Cement (the world’s top 10 cement producer) on deliveries of 1m tons of thermal coal with a possibility of signing additional agreements on purchases of coking coal. However, there have been no public reports about signing of additional agreements.
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In 2013 Mechel made an open-ended agreement with Shasteel Group. According to the document, as of June 2013 the Chinese company is to buy from 40,000 to 80,000 tons of coal per month in Far Eastern ports; the fuel price is set every month. Thus, at the end of 2015 Mechel accounted for up to 70% of all Russian coking coal exports to the PRC. According to the current agreement, from 1.5m to 2m tons of coking coal is to be exported to China in 2016. Mechel supplies coal by sea and railroad. In 2013 the company began shipping coal by railroad through the new border checkpoint Makhalino-Hung Chun; it was planned to increase maximal supplies in this direction to 12m tons by 2020. When the ESPO oil pipeline was launched in 2011, railroad transportation capacities previously booked by oil companies became available for coal exports.
Figure № 17: Structure of coking coal exports to China (estimated)
*estimated volumes Sources: FCS; GAC; company filings; Ugol Magazine; NESF analysis
Despite an intergovernmental agreement sealed in 2010, it is impossible to guarantee growth or preservation of current quantities of coal exports to China because of uncertainty around prolongation of agreements. Moreover, projects of joint development of new deposits are progressing rather slowly. For instance, a MoU on cooperation in the coal sphere was signed to develop the Ogodzhinskoye deposit. However, in 2011 Shenhua and Russian Fuel Company failed to agree to establish a corresponding JV. In 2014 the Chinese company again attempted to enter the project, but this time with Rostec. On 5 September 2014 Rostec and Shenhua signed a memorandum of understanding. The Chinese company is to become a strategic investor, as well as the major consumer of highly calorific coal concentrate of the Ogodzhinskoye deposit. Sinomach, another Chinese company, is also interested in the project. While fuel prices are low and there is high competition on the world market, making agreements on selling coal to strategic investors in new projects is a more promising solution of the export issue. However, there are few such projects at the moment. Besides, Chinese companies often do not go beyond demonstration of their interest that does not lead to any practical agreement and result.
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Chapter 3. Russia-China cooperation in gas business The Chinese economy built on coal consumption faced objective factors restricting its growth and improvement of efficiency and quality of its development, in the energy sector in particular. An about 6% share of natural gas in Chine’s energy balance in 2015 demonstrates that its archaic energy system does not correspond to the level of the country’s social and economic development. This is why the advance in natural gas consumption in China in the long-term perspective will be directly proportionate to the increase in the demand for energy multiplied by the ratio of increase in the gas share in the energy balance to the level of developed economies (some 20% to 30%). The potential advance in natural gas consumption can be estimated at three to five fold even taking into account the economic growth slowdown and improvement of energy efficiency. An additional demand in some 10 to 20 years can be as much as 400bn to 800bcm of natural gas per year. The growth will in fact depend on a combination of factors – the level of domestic production and the availability of a diversified (and hopefully profitable) portfolio of gas imports from reliable sources. The Russian gas, due to geographical reasons (the lack of transit states) and various resources, will obviously play a key role in any case. At the moment there is already understanding of the future infrastructure and the scale of Russian gas exports to China. Firstly, it is the Power of Siberia gas pipeline and the first 30 year long contract on 1 trillion cu m of gas supplies signed by Gazprom and CNPC – some 38bcm per year. It is based on Chayandinskoe with 1.45 trillion cu m, Kovykta and satellite deposits with 2.6 trillion cu m of reserves and smaller deposits in Eastern Siberia. Gazprom is the coordinator and the main player of the Eastern Program adopted in 2007; currently the company has large gas reserves (over 5 trillion cu m) in the region, three large production projects – Sakhalin-3 (including Kirinskoye), Chayandinskoye in Yakutia and Kovykta in the Irkutsk Region. The designed production level at these deposits exceeds 80bcm per year. Practically the whole output could be exported. According to our estimations, growth in the domestic demand in the east of the country will not surpass 10bn to 15bcm per year in the foreseeable future even taking into account creation of export oriented gas chemical production facilities (plants producing mineral fertilizers). Major part of the domestic demand, mainly in Sakhalin, the Khabarovsk and Primorye Territories, could be covered by supplies of associated gas from Sakhalin-1, Russia’s share in Sakhalin-2 (just like it is happening now) and gas from the Kirinskoye deposit. Moreover, the domestic demand in Eastern Siberia could be satisfied by Rosneft resources, first of all it concerns utilization of associated gas at oil deposits located not far from the designed gas transportation infrastructure.
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Figure 18: Gas reserves of Gazprom in the east of the country, trillion cu m 3
2,5 Sakhalin-3*
2 Kovykta satellite deposits
1,5 Kovykta deposit
1 Other deposits in Yakutia
0,5 Chayandinskoye
0 Yakutia Irkutsk Region Offshore Sakhalin
*Including reserves of Kirinskoye deposit Source: Gazprom
Currently only a half of the expected gas output is contracted by China on a long-term basis. Some ten years of talks between Gazprom and CNPC culminated in May 2014 with the signing of the first long-term contract on piped gas deliveries from Russia to China. For the Russian gas industry it was like opening a window to Asia and entering a new and the most dynamically growing and promising gas market in the world, which enables Russia to start developing the gas potential of Eastern Siberia and its Far East, accelerate social and economic development of these regions and simultaneously diversify sources of export revenues. The signed contract stipulates supplies of up to 1.032 trillion cu m of gas for 30 years to China as of Q4 2018. Both sides have the right to delay the beginning of exports by two years depending on the infrastructure readiness. In the first five years of supplies (by 2023 or by 2025 in case of two-year delay) supplies are to reach the contracted level of 38bcm per year. In addition to the contract signed in May, last autumn Russia and China sealed an intergovernmental agreement and a technical accord between Gazprom and CNPC on gas transfer on the border near Blagoveshchensk. In October 2014, in addition to the commercial contract, an intergovernmental agreement and a technical agreement, annex to the natural gas sale-purchase contract, were signed. The document defines main parameters of designing, building and maintaining a trans-border section of the Power of Siberia gas pipeline. Moreover, it contains main technical and technological parameters of natural gas transfer from the seller to the buyer. The Power of Siberia gas pipeline is to be laid to deliver natural gas from Eastern Siberia. It is about 2,200km from the Chayandinskoye deposit to the gas transfer point near Blagoveshchensk, Amur Region; a 800km long pipeline will be required to connect Kovykta to the transportation system. An about 1,000km long pipeline is to be built to connect the system to the already operating Sakhalin-Khabarovsk-Vladivostok gas pipeline near Khabarovsk. However, one line of up to 33bcm per year is not enough to ensure the contracted level of supplies to China. Moreover, after transportation and processing the volume of marketable gas will be 10% to 12% lower than the produced volume. This is why it is planned to lay two lines at the main section Chayandinskoye-Blagoveshchensk, which will provide for pumping up to 65bcm of natural gas per year and delivering up to 55bcm of gas per year to domestic and foreign consumers. Thus, two lines create a possibility for expanding gas exports to China by 10bn to 15bcm already by 2025.
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The Chinese seem to have purposefully insisted on preserving the contractual level of supplies in the agreement at 38bcm like it was stipulated in the first memorandum. They will try to use the available free capacity in the pipeline to make contracts with another Russian supplier, e.g. Rosneft whose head Igor Sechin is one of the lobbyists of canceling Gazprom’s monopoly on piped gas exports. A corresponding decision has not been achieved yet. But the pressure on this question should be expected to intensify simultaneously with the progress in constructing the infrastructure. This pressure first of all will be applied by Rosneft that will cite the necessity to implement license obligations and monetize available reserves of natural gas in Eastern Siberia, as well as to utilize associated gas from oil deposits, e.g. Verkhnechonskoye in the Irkutsk Region and a number of minor fields located close to the new gas transportation system. Besides two lines of the Power of Siberia to the gas transfer point on the Chinese border, it is planned to build a big gas processing plant in Belogorsk, Amur Region; the plant is to produce marketable helium and ethane (feedstock for gas chemistry). A preliminary agreement with SIBUR was signed on building a gas chemical complex in Belogorsk that will buy ethane and process it further.
Figure 19: Power of Siberia and Belogorsk gas chemical complex
Source: Gazprom
According to statements by Russian state authorities and Gazprom top managers, investments in the project will total some $55bn. This amount includes the estimated budget of the Chayandinskoye deposit development (440bn rubles or $13bn in 2012 prices), the first line of the Power of Siberia (770bn rubles or $23bn), as well as projects of gas processing and helium utilization (620bn rubles or $18bn). The second line, a gas pipeline from Kovykta and development of deposits in the Irkutsk Region aimed at bringing supplies to the level stipulated in the agreement between Gazprom and CNPC, will require about $40bn more. But drop in oil prices leads to the ruble revaluation which seriously reduces the dollar nominated investments in the project. F.e, all the pipes for the project will be produced in Russia. Financial parameters of the contract have not been disclosed being a commercial secret. Gazprom CEO Alexey Miller estimated the contract at $400bn within 30 years. Thus, the price of 1,000 cu m is $387. This figure corresponds quite well to the price of Gazprom supplies to Europe and Turkey in 2013. The estimation of the contact is rather conditional. A concrete price of natural gas will be defined in line with the formula linked to prices of oil and oil product and adjusted to the inflation rate.
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There are risks related to the fact that China is the only buyer of this gas. The PRC will probably use this factor to get additional concessions. However, such strict dependence between a supplier and a buyer is typical for piped gas supplies. To hedge these risks a long-term take-or- pay contract should be signed; thus, a supplier insures itself from whims of the sole importer. Moreover, Eastern Siberian gas is very important for the future energy balance of the PRC and sustainable development of its northeastern provinces. Feeling acuteness of the current geopolitical moment and Moscow’s obvious interest in showing its western partners alternative ways of economic cooperation development and trade Beijing decided to get an additional discount from Moscow. However, as soon as China realized that Russia would not sacrifice commercial profits for the sake of resonant moves, Beijing had to give up this unproductive tactic. Having failed to agree with CNPC on prices in 2013, Gazprom simply suspended activities in the East and even did not include expenses on development of the Chayandinskoye deposit and designing of the Power of Siberia gas pipeline in its 2014 investment program. For China it meant just one thing – delay in receiving natural gas that anyway cannot arrive earlier than after five years of preparations. So, activities on building the infrastructure were restored quickly. Although the price is quite comfortable for the supplier, it also meets quite well the interests of the buyer. On one side, it is substantially higher that initial expectations of Chinese negotiators who tried to make Russian gas pricing be based on prices of Chinese coal or link it to Henry Hub in America where prices have been much lower than in Asia and Europe over the past several years. On the other side, the price of Russian gas is about 15% lower than the average price of LNG imported by China in 2013 ($444 per 1,000 cu m).
Moreover, the northeast of China (Heilongjiang, Jilin, Liaoning and Hebei provinces without two major cities – Beijing and Tianjin) with the population of about 180m people is in fact not connected to China’s West-East gas transportation system and major deposits in western provinces. The latter also get gas from Central Asia that is currently the largest source of gas imports in China. However, this gas is not delivered to the northeast, except the capital city. The share of natural gas in the energy balance of these provinces is just 2% on average (from 1.4% to 3.2%), which is half of China’s average figure. This situation may change substantially only in the south of the region (Beijing, Tianjin and Hebei) where supplies from the west of the country (domestic production and imports from Central Asia) will be expanded. The northeast will remain coal dominated. The only variant of additional supplies to this region is an LNG receiving terminal in Liaoning, but its designed capacity is just 10.5bcm per year. The situation should and will be changing in the long-term perspective. To make it possible China needs new, reliable and relatively cheap imports of natural gas, because production of domestic resources has been more and more lagging behind the demand over the past five years. According to CNPC that is responsible for preparing the required infrastructure to receive Russian gas in China (high-pressure gas pipelines, distribution networks and underground gas storages balancing uneven demand throughout a year), a pipeline from the border will be laid to the Hebei Province, Beijing and Tianjin, which will develop gas supplies in fact in the whole northeast of the country. The total amount of investments in China is estimated at some $15bn to $20bn. The contracted 38bcm of natural gas per year will substitute approximately 50m tons of coal, reduce CO2 emissions by 55m tons and sulphur dioxide emissions by about 1m tons. This will significantly help China’s northern regions where the beginning of a heating season usually looks like an ecological catastrophe. However, this big plan of gas supplies from Russia to China is not the only one. The Russian side is interested in having an option of moving natural gas supplies from the Western direction to China and vice versa depending on the conjuncture. This is why it revived
27 negotiations on natural gas deliveries to the West of China along the Power of Siberia-2 (previously known as Altai) pipeline. Supplies of some 30bcm per year for 30 years are on the agenda. In November 2014 Gazprom and CNPC signed a corresponding framework agreement and the heads of agreement on supplies on 8 May 2015. The stumbling block is the gas price. Given the worsening conjuncture, it is not very advantageous for the Russian side to sign this accord now, because investments in development would take a more significant part of potential revenues. Moreover, there is understanding that China will make use of the competition between Russian supplies and Central Asian gas that enters this region of China and is transported to more developed and densely populated coastal regions. Nevertheless, in the long-term and from the point of view of strategic perspective, this project seems to be beneficial both to China that will probably need all possible sources of gas supplies, and to Russia that wants to reduce risks related to political problems with Turkey and the discrimination of the Russian natural gas supplied from Western Siberia to Europe. Beijing also initiated talks on signing a contract on gas supplies to China’s eastern provinces from Sakhalin through the already laid Sakhalin-Khabarovsk-Vladivostok gas pipeline. So far this project is on the level of a memorandum of understanding. China wants to take as many Russian resources as possible. Gazprom projects added by LNG supplies. Gazprom export monopoly applies only to pipeline supply. Already in 2017 NOVATEK will start the first LNG delivery from Yamal LNG where we already see the Chinese shareholders
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Chapter 4. China and Yamal LNG
The risk of blockade of hydrocarbons imports from Africa and the Middle East raises the question of alternative sources of fuel supplies. Beijing is developing cooperation with Central Asian states, Turkmenistan, Kazakhstan and Uzbekistan in particular. Chinese companies buy Russian oil delivered through the ESPO pipeline, the port of Nakhodka, and from Sakhalin. Russian natural gas is to be imported via the Power of Siberia gas pipeline and in the form of LNG. The latter variant will enable China to get liquefied natural gas avoiding risks of gas tankers being blocked in the South China Sea. Chinese companies entered NOVATEK’s project Yamal LNG that stipulates construction of an LNG plant near the village of Sabetta in the Yamal Peninsula. The Yuzhno-Tambeyskoye field is to produce feedstock for the plant. The Russian government sponsors construction of the project infrastructure: a seaport with piers, dredging activities, port tugboats, an airport, a railroad and other facilities. The first consignment of LNG is to be shipped at the end of 2017. The plant will have three lines producing 16.5m tons of LNG per year combined. The estimated cost of the project is $26.9bn. In September 2013 CNPC agreed with NOVATEK on buying 20% in Yamal LNG from the latter. The deal was closed in January 2014. The stake was given to CNPC’s subsidiary CNODC. The Chinese corporation paid 3.845bn rubles (approximately $1.117bn) for that 20% stake in Yamal LNG, according to NOVATEK’s IFRS statements. This amount included the payment for the stake and for the share in historical costs of the project development. CNPC made the first tranche of $468m to NOVATEK in January. The Chinese company made two contributions to the authorized capital of Yamal LNG: $410m in January and $143m in February. In January CNPC paid $95m as compensation of NOVATEK expenses on the project incurred before the Chinese company joined Yamal LNG. It should be noted that in early 2013 France’s Total bought 20% in Yamal LNG for $425m. Later Total and CNPC made contributions to Yamal LNG’s registered capital. NOVATEK had to find foreign partners that could provide technologies required to build large capacity LNG plants, could offer financing and world markets to sell the future produce. Total was selected to provide the project with gas liquefaction technologies, although the formal supplier of cryogenic equipment is the US-based Air Products & Chemicals. The Chinese company was to guarantee financing and the sales market to the project. However, because of US sanctions against NOVATEK, Chinese banks did not rush to allocate credits to the project. As a result, one of the owners of the company, Vladimir Putin’s old friend Gennady Timchenko, lobbied allocation of 150bn rubles (approximately $2.3bn) to Yamal LNG from Russia’s National Prosperity Fund. The finance ministry bought out Yamal LNG’s bonds totaling the same amount. After that another Chinese company, Silk Road Fund Co Ltd. (SRF), entered the project. SRF was established in November 2014. China provided this entity with $40bn. Commenting on the latter’s creation, Chinese leader Xi Jinping specified that SRF would promote strengthening of partnership relations in the sphere of transportation and communication systems. The contract on NOVATEK selling 9.9% in Yamal LNG to Silk Road Fund was signed in December 2015. Within the framework of the deal, SRF provided NOVATEK with a €730m credit for 15 years to finance Yamal LNG. The 9.9% stake in Yamal LNG cost €1.087bn to the Chinese fund. The amount exceeded the price paid by Total and CNPC, which was attributed to a more advanced stage of the project development (larger historical costs of shareholders and the completion of construction of some Yamal LNG infrastructure facilities by the state). Consolidation of almost 30% in Yamal LNG by Chinese companies did not solve problems with attraction of financing by Yamal LNG. NOVATEK general director Leonid Mikhelson declared that out of $27bn in total expenses some $20bn were to be borrowings from mainly Chinese sources. However, corresponding negotiations got protracted because of tough conditions put forward by China. Finally, in April 2016, Yamal LNG, China Exim Bank and China Development Bank signed contracts on allocation of credit lines totaling €9.3bn and 9.8bn yuan (approximately €1.33bn) for a 15-year period. Thus, the company attracted about €10.6bn.
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The yuan credit is attributed to the fact that the PRC obliged Yamal LNG to buy equipment and materials in the PRC. China will manufacture modules for the gas liquefaction plant of NOVATEK in Yamal. There have been no precise reports about these models in the mass media. China is to manufacture and supply 36 modules for gas liquefaction in Sabetta. The $1.643bn contract to manufacture equipment was awarded to China Offshore Oil Engineering Co. (COOEC) in September 2014. Six Chinese enterprises are engaged in the production process. The first two models (the largest of them) were shipped from Qingdao, China, to Yamal in April 2016, i.e. before the Chinese side approved allocation of a credit to Yamal LNG. It should be mentioned that the Yamal LNG plant construction in based on modules because of extreme weather conditions and remote location of Sabetta. NOVATEK and other shareholders decided to assemble modules of the plant in China and other Asian countries, and then deliver these modules to Sabetta where they would be connected. Thus, China will manufacture equipment and assemble the equipment ordered from other producers by Yamal LNG’s contractor Yamgaz SNC (a JV of Technip France and Japan’s JGC Corporation). Yamgaz SNC made an agreement with the US-based Air Products on supplies of three MCR cryogenic heat exchangers that use the AP-C3MRTM technology. One cryogenic heat exchanger is to be installed at one line (5.5 bcm per year) of the LNG plant. Thus, Chinese enterprises will assemble modules based on US heat exchangers. Problems with attraction of Chinese credits (high interest rates and obligations to buy Chinese equipment) make NOVATEK and its partners in Yamal LNG look for other sources of the project financing. Japan Bank for International Cooperation (JBIC) has become one of such sources. On September 2 at the Eastern Economic Forum in Vladivostok, JBIC senior managing director Tadashi Maeda declared that his bank would allocate $400m to finance Yamal LNG. Moreover, NOVATEK has decided to provide additional financing to Yamal LNG. The company is buying out $301m in additional shares in Yamal LNG. As a result, NOVATEK’s share in Yamal LNG will rise from 50.065% to 50.073%, while the shares of Total and CNPC will ease back from 20.017% to 20.015%, and the stake in Silk Road Fund will retreat from 9.898% to 9.897%. The main obstacle for the project to start operating is to wait until the LNG plant and an export terminal are fully prepared. The first ice-class gas tanker is in fact ready. In 2016 South Korea’s Daewoo Shipbuilding Marine Engineering built a YAMALMAX class tanker for Sovcomflot. The tanker is called Christophe de Margerie after the ex-head of Total who died in a plane crash at Vnukovo Airport, Moscow. At the beginning of 2017 the gas tanker was partially loaded with LNG for Arctic trials. The vessel’s ice class is Arc7 making it capable of navigating in up to 2.1 meter thick ice. The tanker is 299 meters in length, 50 meters in breadth, and has 11.8 meter draught. The deadweight is 80,200 tons; capacity is 128,800 GRT. In early February the tanker came to Murmansk and was to leave for Sabetta on February 15 with supplies. Fifteen more tankers will be built at the South Korean shipyard. The names of the next two tankers of Teekay are Eduard Toll and Rudolf Samoilovich after Russian explorers of the Arctic. Two ships of Dynagas are to be called Fyodr Litke and Boris Bilkitsky. Two tankers of MOL to be built under a joint order of NOVATEK and China Shipping Development are to be named Vladimir Vize and Vladimir Rusanov. The port of Sabetta is also readying for operation. On February 8 it held a comprehensive exercise on eliminating oil spills. The exercise was managed by Yamal LNG with participation of its relevant departments, the northern branch of marine rescue service of the federal agency for sea and river transport (Rosmorrechflot), the staff of the medical station of Sogaz-Medservice, the Yamalo-Nenets Autonomous Area’s call center, and the YNAA department of the emergencies ministry. The objective of the exercise was achieved. The presence of NOVATEK top managers at the facility testifies to the company’s big desire to launch Yamal LNG on time. On February 9 Yamal District head Andrey Kugayevsky and Yamal LNG general director Yevgeny Kot visited the Moskva icebreaker of Rosmorport. The visitors
30 had a tour around the ship, and while having tea they were briefed about the work in the port of Sabetta, as well as about the concept of icebreaker assistance, given the expected beginning of shipment of liquefied natural gas under the Yamal LNG project. The Moskva icebreaker began operating in the seaport of Sabetta last November. It is tasked with clearing the water area and approach channels in the port, as well as the area at piers before mooring of cargo ships. The icebreaker has already carried out over 70 dock operations and over 100 ice operations in Sabetta. NOVATEK wants to ship the first tanker with LNG under its Yamal LNG project as soon as possible. Mikhelson promised Putin to carry out the first shipment in November to December. Total head Patrick Pouyanne said that Yamal LNG would ship the first tanker with LNG before October 2017. Actually it may happen even earlier. Pouyanne revealed that Mikhelson had promised the first tanker by his birthday. Mikhelson was born on August 11, not in October. The company deliberately does not report this information. NOVATEK is sure to have some large-scale PR campaign devoted to this event that will highlight huge success of independent producers in the sphere of exports; NOVATEK does not want Gazprom to have time to prepare for that. Although summer does not seem to be a suitable season for the PR campaign, the explanation is simple. NOVATEK shows Putin how effectively the company works in the sphere of exports. The idea is simple: while Gazprom is protracting piped gas supplies to China, NOVATEK has already begun working on this market by successfully selling LNG. Summer is the best season for navigation from Yamal to Asia. In winter the cost of transportation and risks will rise. Tankers will require icebreaker assistance, which increases risks for the first tanker; any failure will affect the project’s image badly. If the first tanker is shipped to Europe, it will stir Putin’s concerns about Yamal gas competing with piped gas of Gazprom in Europe. The latter is actually true, because serious quantities of LNG from Yamal will be shipped to Europe, especially in winter; the price conjuncture on the market is clearly in favor of such supplies. Financial results of the project began raising questions long ago; therefore, Yamal LNG shareholders actively promote other ideas, e.g. creation of new jobs and development of Russian technologies. Meanwhile, the LNG plant is built by France’s Technip, and the equipment is mostly manufactured abroad. Another indicative case is the idea to establish a unified engineering center of LNG with functions of EPC contractor. The idea is to establish a domestic technology of LNG production in Russia using state funds; in this case, partnership with Technip can be portrayed as temporary measure. However, the Russian government had to admit that a foreign partner is required in this project. The French may join this project, but they will not do that for free. They would probably agree to seal a contract on building NOVATEK’s Arctic LNG-2, while NOVATEK would not mind shifting part of expenses on the latter onto the state. The timely launch of Yamal LNG is important for NOVATEK in terms of prospects of its second LNG project Arctic LNG. By shipping LNG to consumers this summer or autumn, Timchenko hopes to convince foreign investors of expediency of entering the new project. In early February he said that Chinese investors could join Arctic LNG. Besides, Timchenko stressed that companies from any country could enter the project. French, Chinese, Japanese and Indian companies showed their interest in Arctic LNG. The project is estimated at $10bn. No firm agreement has been made yet, because production costs of LNG in the Arctic are high, which undermines confidence of investors in the project. Timchenko hopes to build up ties with China by offering comprehensive deals. Chinese companies have 29.9% in Yamal LNG and 20% in SIBUR. At present Timchenko is negotiating construction of regasification terminals in China. There are 13 LNG receiving terminals in the PRC, including a floating one (FSRU), of about 56m ton annual capacity. Thus, the businessman proposes the whole chain of cooperation to China: from LNG production to its regasification. LNG is to be delivered from Yamal through the Northern Sea Route to regasification terminals in China. In the future Timchenko may buy a stake in Sovcomflot – a 75% + one share stake in the shipping company is included in the latest plan of
31 privatization of state property. Gleb Frank, son of Sovcomflot head Sergey Frank, is married to Timchenko’s daughter Ksenia. Therefore, the Sovcomflot management will try to sell the company to entities affiliated with Timchenko. However, the Arctic LNG project is at the preparatory stage at the moment. In early February public hearings were held in the Tazovsky District, YNAA, on dredging activities near piers of the Solmanovskoye (Utrenneye) oil and gas condensate deposit. The work will be done in the Ob Bay, Kara Sea. The project was approved by the majority of voters. It will be possible to lure foreign investors, only if the state bears significant part of project expenses like it was in the Yamal LNG. However, the financial condition of the state is not that great to embark on such huge Keynesian projects. Chapter 5. Chinese companies enter SIBUR
To solve the problem of Chinese credits given to Yamal LNG, Leonid Mikhelson and Gennady Timchenko decided to improve integration with the PRC. Their logic is as follows: to make Chinese financial institutions allocate credits to Yamal LNG, stakes in the latter should be sold to Chinese companies. But to make Chinese investors buy shares in such a risky project, they should be offered a complex deal involving an attractive asset. In 2014 CNPC bought stakes in Yamal LNG and NOVATEK. To sell a 9.9% stake in Yamal LNG to China’s Silk Road Fund, a 10% stake in SIBUR Holding was sold to China Petroleum & Chemical Corporation (Sinopec). SIBUR is Russia’s major integrated gas processing and petrochemical company, which makes it attractive for investors. This arrangement of selling stakes simultaneously in good and risky projects was successfully implemented because Mikhelson and Timchenko are large shareholders in NOVATEK and SIBUR. The deal on selling 10% in SIBUR to Sinopec’s entity SOIHL Cyprus Investment Limited was closed in December 2015. The stake was estimated at $1.338bn. In the future, according to Mikhelson, Sinopec may increase its stake in SIBUR to 20%. Reduction in stakes of Mikhelson and Timchenko can make it possible. It is also important to note that one of SIBUR shareholders is Kirill Shamalov, who is reported to be Vladimir Putin’s son-in-law. Shamalov is allegedly married to the Russian president’s daughter Ekaterina Tikhonova (her last name comes from her grandmother Ekaterina Tikhonovna Shkrebneva). Shamalov indirectly controls 20.9% in SIBUR.
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Figure 20: Ownership structure of SIBUR Holding
К. N. L.V. Mikhelson Shamalov 100% 100% Omega LLC Trust LLC Prime LLC Gamma LLC 100% Sigma LLC 3,42 33,82 6,85 Yauza 12 LLC Ladoga % 6,85 8,22 % % Management % % LLC 5,32 19,58 % G.N. Olefininvest LLC % 17% Timchenko 15,42% 10,04% P.N. Maly 73% 35,75% D.V. Capital M LLC 35,10% Konov SIBUR Holding 0,52 A.V. PJSC Concept %of 14,54% Dyukov 10% Management 4,58 M.Yu. Karisalov LLC % 100% M.V. Mikhailov Sinopec 13 top managers of SIBUR
Source: SPARK-Interfax
To increase Sinopec’s stake in SIBUR, Chinese companies may be offered to join risky projects of NOVATEK or SIBUR. It can be the Arctic LNG project that stipulates construction of an LNG plant operating on the basis of NOVATEK’s deposits in the Gydan Peninsula. The plant’s capacity could be equal to that of Yamal LNG – 16.5m tons of LNG per year. The first produce is expected in 2023. The feedstock for the plant is to be provided by the Geofizicheskoye and Salmanovskoye (Utrenneye) deposits. Proven reserves of Geofizicheskoye under SEC standards were 125.6 bcm of natural gas and 400,000 tons of liquid hydrocarbons at the end of 2014. Proven reserves of Salmanovskoye (Utrenneye) at the end of 2014 were 259.8 bcm of natural gas and 9.6m tons of liquid hydrocarbons under SEC standards. In December 2014 Arctic LNG-1 LLC, a subsidiary of the company, won the tender on using subsoil resources of the Tryokhbugorny block in the Gydan Peninsula bordering on the Geofizichesky license block of the company. С1+С2 reserves of the Tryokhbugorny block under Russian standards amount to 5.9 bcm of natural gas; its recoverable resources exceed 1 tcm of gas and 90m tons of liquids. The Vostochno-Tambeysky and Severo-Obsky blocks could add resources to this project. The total area of the blocks is 9,800 sq km. Their C3 resources are estimated at 900 bcm.
NOVATEK hopes to build the new LNG plant on gravity-based platforms; their production is to be organized in the Murmansk Region where NOVATEK is buying a special land plot for this facility. However, there are many uncertainties around this project, and its profitability is still under question. Given that Japanese and Indian companies show interest in Arctic LNG, Chinese firms may enter a different project of NOVATEK or SIBUR.
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In a statement by SIBUR and Sinopec following their deal it was pointed out that they could jointly work under the project of building the Amur gas processing plant that is part of the production chain in Eastern Siberia. It is supposed that Gazprom will produce multicomponent gas at the Chayandinskoye and Kovykta deposits of the Yakutia and Irkutsk centers of gas production, and will pump it to the Amur gas processing plant. The enterprise will produce methane, ethane, propane, butane, pentane-hexane fraction and helium. Methane will be sold to China under a contract between Gazprom and CNPC signed on 21 May 2014. Other components (except helium) are to be used as feedstock for a hydrocarbons processing plant to be built by SIBUR. Sinopec may enter the capital of this high-degree processing plant. Another scenario of cooperation development stipulates allocation of large credits by Chinese banks to entities of Timchenko and Mikhelson in exchange for the already bought 10% stake in SIBUR. The businessmen may need borrowed resources to take part in the process of privatization of Russia’s state companies, e.g. Sovcomflot (Timchenko’s daughter is married to the son of Sovcomflot head Sergey Frank). Stakes in risky projects will be probably sold after Sinopec’s stake in SIBUR increases to 20%. At the Eastern Economic Forum held on 5 September 2016 Leonid Mikhelson mentioned a possibility of selling another 10% in the chemical holding to the Chinese company.
Chapter 6. China's policy towards the Northern Sea Route
The Arctic is a very complicated region for economic activities. However, practically every world leader has its own Arctic program; they all want to play a significant role in the process of governing Arctic territories. China demonstrated its interest in the Arctic back in 1994 when it bought from Ukraine a diesel-electric icebreaker built in 1993. The ship was called Xue Long (unofficially translated as Snow Dragon). The icebreaker is capable of navigating in up to 1.5-meter thick ice. At present it is possible to identify two components of China’s interest in the Arctic. Firstly, Beijing wants to guarantee unrestricted access to the Northern Sea Route. Secondly, Chinese companies have entered some Arctic projects in Russia. China hopes to deliver resources from these projects along the Northern Sea Route in the future. It is indicative that to meet these tasks China pursues the opposing tactics toward Russia. The countries have different opinions on a possibility of free access of ships to the Northern Sea Route. Chinese and other foreign lawyers refer to article 26 of the UN Convention on the Law of the Sea of 1982 that reads: “no charge may be levied upon foreign ships by reason only of their passage through the territorial sea”. The Russian side cites article 234 of the 1982 Convention related to ice-covered areas that reads: “Coastal States have the right to adopt and enforce non-discriminatory laws and regulations for the prevention, reduction and control of marine pollution from vessels in ice- covered areas within the limits of the exclusive economic zone, where particularly severe climatic conditions and the presence of ice covering such areas for most of the year create obstructions or exceptional hazards to navigation, and pollution of the marine environment could cause major harm to or irreversible disturbance of the ecological balance. Such laws and regulations shall have due regard to navigation and the protection and preservation of the marine environment based on the best available scientific evidence”. Thus, Russia believes it is possible to charge payment for icebreaker assistance to ships navigating along the Northern Sea Route, as well as for pilotage services. It implies that attempts of independent navigation of ships along the NSR may result in accidents causing environmental damage to the Northern Sea Route and the Russian coastline. To organize navigation along the Northern Sea Route, the NSR Administration was reestablished in Russia in 2013. In April 2013 Russia’s transportation ministry approved the 34 rules of navigation in the water area of the NSR; these rules in fact stipulate issuing of permits to Russian and foreign ships. The owner or the captain of a ship intending to navigate along the NSR must submit an application to the NSR Administration at least 15 days prior to the beginning of a voyage in this water area, to get a permit that is given only for a particular period. Russian and foreign ships navigating along the NSR must meet special ice requirements and be insured. Moreover, they must inform the Administration 72 hours before approaching the NSR water area border, and inform daily of the ship movement, condition and the actual time of the water area border crossing. In accordance with the document, it is compulsory to use pilotage services (icebreaker and ice pilotage assistance) to navigate in the NSR water area; information about such services is found in navigation permits. The NSR Administration issues such permits after consideration of applications and verification of the right for ice pilotage services along the NSR. Russian state authorities hope that enforcement of these rules will spread Russia’s jurisdiction onto the whole NSR to control navigation in this zone. Despite attempts of Russia to establish control over the NSR, Chinese, German, Sweden and Finnish ships navigated along northern routes of the NSR without Russian icebreaker and pilotage assistance. However, these were high ice-class ships that sailed in August to September when the ice situation along the NSR is the most favorable.
Another problem for Russia is the insufficient number of icebreakers. According to Atomflot, the nuclear icebreaker fleet consists currently of: Two icebreakers having two nuclear power units of 75,000 hp capacity (Yamal, 50 Let Pobedy), Two icebreakers having one reactor unit of about 50,000 hp (Taimyr, Vaigach), The Sevmorput nuclear lighter aboard ship having 40,000 hp reactor unit. Five service vessels (the Sovetsky Soyuz icebreaker is in reserve).
This number of nuclear icebreakers is not sufficient to satisfy the demand for their services, taking into account plans of year-round navigation along the NSR. At present about 40 diesel- electric icebreakers operate in Russia. However, they are not capable of navigating in thick ice. Such ships are usually employed to operate in ports where ice is formed. Such icebreakers assist ships along the NSR only in summer when there is no thick ice.
Table №5: Satisfied applications for icebreaker assistance along the NSR 2013 2014 2015 Number of submitted 718 644 730 applications for icebreaker assistance Number of permits 635 614 715 issued to foreign ships 127 109 124 Number of rejected 83 (18) 30 (7) 15 applications (final) Source: NSR Administration
The insufficient number of icebreakers results in delayed permits and even refusal to provide icebreaker assistance (the deficit of icebreakers is not the only reason for denying access to the NSR). The date of the beginning of icebreaker assistance is another problem. Foreign and Russian ships may have to wait for a nuclear icebreaker to arrive for a long time before starting to sail along the NSR. According to the NSR Administration, in 2013, 36 out of 71 assisted ships had to wait for an icebreaker. 40 out of 71 ships sailed through the NSR and 18 of them (42%) had to wait for an icebreaker from one to six days. As far as coastal shipping is concerned, 18 out of 31 ships (58%) had to wait for icebreakers for one to twelve days. During the 2013 navigation
35 season some 125 vessel-days were lost in waiting for icebreaker assistance. However, the NSR Administration has different data about the 2013 icebreaker assistance. The problem of waiting for the NSR transit has not been solved yet. Moreover, the waiting time will increase, if the transit of ships via the NSR expands. Some 5.4m tons of cargo was transported in 2015, which was 45.4% more than in 2014. In 2014 cargo transportation rose by 31.6% to 3.7m tons compared to 2013. In the future it may increase further because of LNG deliveries from a new LNG plant near Sabetta (the Yamal LNG project), and oil from the Novoportovskoye deposit of Gazprom Neft (the Novy Port project). Thus, the NSR’s main advantage over the traditional route of transportation from Asia to Europe via the Suez Canal will be lost. It is 14,280km from Saint Petersburg to Vladivostok via the NSR, 23,200km via the Suez Canal, and 29,400km via the Cape of Good Hope. The distance from Murmansk to Yokohama (Japan) is 12,840 nautical miles via the Suez Canal, 5,770 nautical miles via the NSR. The distance between Rotterdam, the Netherlands, and Yokohama is 11,200 nautical miles via the Indian Ocean and 3,900 nautical miles via the NSR (-34%). This factor reduces a voyage from 33 to 20 days, and cuts the costs of cargo delivery correspondingly. Norwegian tankers carrying LNG from Hammerfest to Japan via the NSR in November 2012 saved about 20 days on delivery and dozens of thousands of dollars on operating expenses. The length of the main route of the NSR from straits near the Novaya Zemlya to the port of Provideniya is 5,610km. To fix the problem of delayed icebreaker assistance, Russian authorities have approved the program of construction of new nuclear icebreakers, which will reduce the waiting time. On 5 November 2013 construction of the first nuclear icebreaker of the new LK-69Y type (the 22220 project) began in Saint Petersburg. The first-in-class icebreaker costs 36.959bn rubles. This Arktika icebreaker has been already set afloat, and will be put into operation on 31 December 2017. Besides, three more icebreakers of this type will be built – Sibir, Ural and the third ship that has not been named yet. The cost of two icebreakers of this series is 84.4bn rubles. Their construction has already begun at the Baltic Shipyard, and they are supposed to be ready by 25 December 2019 and 25 December 2020 respectively. The fourth ship’s construction schedule has not been defined, as no financing has been allocated. The 22220 project icebreakers are to combine advantages of the previous Arktika and Taimyr projects. It means new ships will be dual-draft enabling them to operate in deep water and in bays and estuaries. They will be capable of navigating in 2.9-meter thick ice. The new icebreaker is 173.3 meters in length, 34 meters in breadth, and has 33,540-ton displacement. Meanwhile, the Krylov state scientific center jointly with the Iceberg central design bureau is working on the concept of the innovative nuclear icebreaker Lider. The new ship is to be more powerful than the project 22220 – 110 megawatt – making it capable of navigating in up to 4.3-meter think ice. According to new specifications defined by Rosatomflot for the Krylov and Iceberg centers, the main parameter of the Lider class ship is its attainable speed in ice, not ice breaking capability regardless of speed as previously. Atomflot’s requirement is the capability of crushing up to 2-meter thick ice at the speed of 10 knots. It should be mentioned that the project 22220 icebreakers that are currently under construction are capable of speeding to 1.5 to 2 knots in such ice conditions. Iceberg general director and chief designer Aleksandr Ryzhikov declared that experiments in an ice basin of the Krylov center demonstrated Lider’s capability of moving in up to 2-meter thick ice at the speed of 12 to 13 knots. Lider differs from all previous types of icebreakers by its breadth of 50 meters. This important difference enables the ship to assist oil and LNG tankers. It corresponds to the breadth of new gas tankers of the Yamalmax class built for the Yamal LNG project. The draft design of Lider was made in 2015, and its technical designing is to begin at the end of 2016. According to preliminary plans, Atomflot will have two nuclear icebreakers of the Lider class. Thus, the 22220 project icebreakers will replace the currently operating ships – most of the latter will have finished their service life by 2020. The Lider class ship will be the next generation Arctic icebreaker. Other countries also make attempts to create their own icebreaker fleet. However, no other country has nuclear-powered icebreakers. Construction of such vessels is not even planned.
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However, China intends to form its own Arctic fleet to have a possibility to reject Russian icebreaker and pilotage services. At the end of 2016 China’s Jiangnan Shipyard Co. is planning to start building the country’s first diesel-electric icebreaker. It will be based on the Xue Long (Snow Dragon) icebreaker purchased from Ukraine. The new icebreaker is supposed to navigate in up to 1.5-meter thick ice at the speed of 2 to 3 knots (4-5.5 km/h). The ship planned to be built within two years will cost $153m. To refuse Russian pilotage services, China is trying to create its own navigation system in the Arctic. In November 2015 China published the country’s first Arctic navigation atlas containing comprehensive information and facts about navigation in the Arctic. A deputy head of the center of Arctic navigation of the Ministry of Transport of China declared then that the atlas had been prepared by the Tianjin center of marine geodesy and cartography. The atlas contains seven sections with information about physical geography, social and economic geography, Arctic navigation, Arctic seaports, supplemental navigation systems and rescue services, laws and regulations and international organizations. The Arctic atlas project is aimed at eliminating the lack of information about Arctic navigation. China also tries to set up its own research stations in the Arctic. In 2004 China agreed with Norway and opened its station in a two-floor building in Ny-Alesund, Spitsbergen. China expands its presence in the Arctic through business projects that in reality are part of the state program. In November 2014, prominent Chinese businessman Huang Nubo, in fact he is a veteran member of the Communist Party of China, attempted to buy the area of 217 sq km in Spitsbergen, but was denied. In 2011 he tried to invest $200m in development of the tourism sector in Iceland. The true motive was to build a base in this country for Chinese researchers. Icelandic authorities were afraid of Chinese expansion and refused the offer. In 2015 the idea of developing the NSR faced an unexpected problem. The economic advantage of this route dropped substantially. When fuel prices are high, transportation companies choose a shorter route to save on fuel costs. But if fuel prices are low, the length of a route stops playing a big role. However, China’s interest in using the NSR is also attributed to its desire to have secure routes of exports and imports of commodities. At present the export/import traffic to/from the country goes through the South China Sea where China has conflicts with Japan and the USA. Moreover, practically the whole amount of oil and gas imported by sea is delivered to China through the Strait of Malacca. The USA may block this route in case of a conflict with China. This is why China considers the NSR as an alternative route of exchange of commodities with Europe.
Chapter 7. China participates in offshore projects in Russia
China is interested in offshore projects. In accordance with the Russian law, a company can be allowed to develop offshore deposits only if its controlling stake belongs to Russia, and if it has five-year experience of operation at Russian offshore deposits. Only four companies meet this requirement: Rosneft, Gazprom, Zarubezhneft and Gazprom Neft. Rosneft and Gazprom have received almost all licenses. Gazprom Neft received the Prirazlomnoye project from its parent company; the project is the only operating production asset offshore Russia in the Arctic. In March 2013 Rosneft and CNPC signed a framework agreement stipulating surveying of the Zapadno-Prinovozemelsky block in the Barents Sea and the Yuzhno-Russky and Medynsko-Varandeisky blocks in the Pechora Sea. However, no firm contract on the Chinese state company entering Rosneft projects in the Arctic was signed.
Chinese companies have a stake only in the sub-Arctic project Sakhalin-3. In March 2007 Rosneft and Sinopec sealed a shareholder and operating agreement on joint prospecting and development of the Veninsky block included into the Sakhalin-3 project. The Russian company
37 has 74.9% in the project, and Sinopec has 25.1%. The project operator and owner of the geological license is Venineft LLC. In 2003 to 2010 seismic prospecting was carried out at the block; four prospecting wells were drilled. As a result of drilling, the Severo-Veninskoye gas condensate deposit was discovered with С1 + С2 reserves totaling 49.02 bcm of natural gas and 1.21m tons of condensate. Such a small volume of reserves did not make it possible for the companies to develop the block profitably. This is why Igor Sechin lobbied allocation of an additional block to Venineft. In May 2014 the Russian government awarded a subsoil block covering the Severo-Veninskoye deposit to the company. The amount of the single payment was set at 87.2m rubles (about $3m at the exchange rate at that time). However, allocation of the additional block has not put the project into motion. Amid low prices of hydrocarbons, the resources available are not sufficient to start development of the block. In early September 2016 Gazprom head Aleksey Miller said the wanted to engage China’s CNOOC in development of oil deposits in the Arctic. Chinese companies may become formal partners of Gazprom Neft, because Gazprom intended to transfer oil assets to its oil- producing subsidiary. Miller did not name deposits that can be developed jointly with Chinese companies. The only operating project of Gazprom Neft is Prirazlomnoye. Besides, the company has licenses to develop four blocks on the continental shelf in the Arctic:
Severo-Vrangelevsky (forecast resources on 1 January 2009 were 632.8m tons of oil and 994.4 bcm of natural gas), Kheisovsky (forecast resources were 140m tons of oil and condensate, and 2 tcm of natural gas), Severo-Zapadny (over 105m tons of oil and condensate, and 60 bcm of natural gas), Dolginskoye deposit (over 200m tons of oil equivalent of recoverable reserves).
The most prepared deposit for development is Dolginskoye where three prospecting wells have been drilled. Strong lobbyists support offshore projects of Gazprom Neft; this factor raises their attraction for foreign partners. In addition to the administrative resources of Aleksey Miller, who can communicate directly with Putin, Gazprom Neft deputy director for offshore project development Andrey Patrushev can lobby interests of the company. He is a son of Russia’s Security Council Secretary Nikolay Patrushev. Despite support of Russian state authorities, Chinese companies are not hurrying to enter Russian offshore projects, let alone Arctic projects, because they are not profitable amid low oil prices. In May 2016 CNPC Chairman Wang Yilin declared that proposals of Russian companies looked too risky, although negotiations with Rosneft and Gazprom Neft continued.
Chapter 7.1 China’s participation in other energy projects in Russia
Chinese companies have not achieved a big success in Russian projects implemented on land. The largest joint project is Udmurtneft. Until 2006 this company belonged to TNK-BP. In June 2006 the Russian-British firm decided to sell this asset. Rosneft was eager to buy it but did not have free resources sufficient to purchase the new asset. Simultaneously, China’s Sinopec got interested in Udmurtneft, but the Chinese company was afraid of political and economic risks of operation in Russia. As a result, Rosneft and Sinopec made an informal agreement – Igor Sechin, the political supervisor of the Russian oil company at that time, guaranteed lobbying support, while the Chinese company was to finance the purchase of 100% in Udmurtneft. After the latter was bought from TNK-BP, Rosneft got an option to buy 51% in Udmurtneft and did that using credit resources obtained from Sinopec. The credit was paid off by Rosneft’s share in profits of
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Udmurtneft. The latter has 58 licenses to develop 26 deposits and carry out prospecting of blocks; it produces about 6.5m tons of oil per year. Vostok Energy LLC is a production project with involvement of CNPC. The project was launched in 2006. It stipulates oil production at the Verkhneichersky and Zapadno-Chonsky blocks in the Irkutsk Region. CNPC owns 49% in Vostok Energy; the other 51% belongs to Rosneft. The joint company has violated license requirements several times. Vostok Energy was to drill five prospecting and appraisal wells at the Verkhneichersky block and four wells at Zapadno-Chonsky by 2012. The first well drilled at Zapadno-Chonsky in 2010 did not bring positive results, and the partners apparently decided to take a pause to reevaluate prospects of the blocks. In fact, all joint projects of Rosneft and Chinese companies face the problem of profitability – either deposit reserves are too small or they are complicated to be extracted. In either case, current oil prices provide for recovering investments only in a too long period of time. Onshore projects with large reserves are a separate category. Rosneft discussed selling stakes in Vankorneft and Taas-Yuryakh Neftegazodobycha to Chinese partners, but Indian companies were the first to purchase both assets. A slow response by the Chinese was attributed to Beijing’s concerns about the US sanctions imposed on Rosneft. Chinese companies were afraid that American regulators would accuse them of violation of the sanctions regime. Indian firm took that risk and outpaced their Chinese competitors. The refusal of Chinese companies to enter production projects of Rosneft did not cause suspension of contracts of companies. The sides intensified their interaction in the gas chemical and petrochemical segments. In September 2016, Sinopec and Rosneft signed a legally binding agreement on drafting a joint preliminary design of the project of building and operating a gas processing and oil and gas chemical complex in the Boguchany District, Krasnoyarsk Territory. The sides intend to form a joint project group that will consider different variants of application of modern technologies in the sphere of gas processing, as well as select a consultant to manage the project among global engineering companies. Moreover, at this stage it is planned to select a construction site near the town of Boguchany, develop the project configuration, and approve optimal technological solutions. In case of successful implementation of activities stipulated by the agreement, Rosneft and Sinopec will set up a joint venture to deal with FEED, construction, and operation of the complex. The annual capacity of its first line is to be 5 bcm of natural gas producing up to 3m tons of high-tech polymers and petrochemical products to be sold largely on the Russian and Chinese markets. In June 2016 Rosneft and ChemChina signed an agreement on the Chinese company acquiring 40% in the Far East Petrochemical Company (FEPCO) with proportionate participation in financing. The sides intend to jointly carry out economic analysis to identify market niches for the FEPCO produce taking into account possibilities of the Chinese company that has stable positions on the Asia Pacific market. Moreover, within strategic cooperation between the companies, Rosneft and ChemChina sealed a new contract on oil supplies for a one- year period. In September 2016 the companies signed an agreement on identifying stages of further implementation of the FEPCO project and establishing a corresponding joint venture. The agreement also specifies the schedule of FEED (Front-End Engineering and Design), the beginning of preparing the project infrastructure, its key tasks and a roadmap of its implementation. The main trouble of FEPCO is that Rosneft does not have its own natural gas reserves in this area to load the future plant. In June 2016 Igor Sechin wrote a letter to PM Dmitry Medvedev complaining of Gazprom having suspended the process of switching FEPCO to the gas transportation system. The state concern wants Rosneft to provide guarantees of its own gas supplies to the future plant. Sechin claims that its company supplies the whole gas it produces under Sakhalin-1 to consumers in the Khabarovsk Territory. In reality Rosneft’s gas output in
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Sakhalin is much larger, but the company pumps gas back into reservoirs to maintain pressure for oil production. Besides, Rosneft and ExxonMobil intend to build their own LNG plant – Far Eastern LNG that is supposed to use Sakhalin-1 gas. This is why, Rosneft wants to buy gas from Gazprom for FEPCO. And Sechin wants the gas concern to finance construction of a gas pipeline to the future complex. It should increase supplies of Gazprom gas to the domestic market making it an additional barrier on the way to building line 3 of the operating LNG plant in Sakhalin under the Sakhalin-2 project. Therefore, it will raise chances of Rosneft to build Far Eastern LNG. In addition to China’s state companies, there are some private firms that are negotiating participation in Russian projects. For instance, Bright Oceans Corporation is in talks on buying the Georgiyevskoye oil deposit between the towns of Kholmsk and Nevelsk in Sakhalin. The Cyprus-based Oriental Petroleum Limited that owns 100% in Kholmskneftegaz that holds the license of the Georgiyevskoye deposit can sell the asset. The Georgiyevskoye deposit was discovered in 2007 in the Nevelsk District. In 2012 Kholmskneftegaz CJSC was awarded the license of the Georgiyevskoye oil deposit for a 30-year period. C3 recoverable reserves of the deposit amount to 66.7m tons. C1 oil reserves stand at 672,000 tons, while С2 reserves total 4.681m tons. Bright Oceans Corporation was established in 1988; it is a private holding that deals with projects in the spheres of energy, natural resources, IT, as well as new materials and biochemical technologies. The company has an office in Russia; it is a partner of Stroytransgaz of Gennady Timchenko in development and application of new materials in road construction. Although Bright Oceans Corporation is a private company, in reality practically all large Chinese companies act in the interests of the state. The private company status is aimed at removing concerns about the Chinese threat in countries where they purchase assets.
Chapter 8. Silk Road Economic Belt
China’s economic growth and corresponding increase in trade with Europe led to the PRC’s dependence on reliability of sea trade routes. To diversify routes of cargo delivery to Europe, Chinese politicians stake not only on the Northern Sea Route, but also on land-based transportation corridors. In September 2013 Chinese leader Xi Jinping during his state visit to Kazakhstan put forward the idea of creating the Silk Road Economic Belt. This project includes several segments: transportation, financial, energy, political, and social and cultural. China hopes this project will develop in China and in other countries. At that time Xi Jiping said that project stipulated cooperation of countries on five directions: a political dialogue, strengthening of infrastructure ties, improvement of trade conditions, strengthening of financial relations and settlements in national currencies, as well as people to people contacts. The idea of the Silk Road Economic Belt is, to some extent, a reflection on the old trade route that existed as early as in the 2nd century B.C. – caravans would travel from China to Europe and back through the territory of present day Kyrgyzstan, Kazakhstan, Mongolia, India, Iran, Turkey, and Greece. In 1877 German geographer Ferdinand von Richthofen coined the term “Silk Road” for this route. One of the main reasons for decline of this trade route was development of sea trade as of the 15th century. The modern project of the Silk Road Economic Belt is about creation of railroads and highways from China to Europe, as well as the single economic zone. The latter is supposed to have investment institutions and funds that could finance infrastructure projects along the Silk Road, as well as creation of production capacities in countries participating in the project. Silk Road Fund and the Asian Infrastructure Investment Bank are among such institutions. Xi Jiping declared establishment of Silk Road Fund on 8 November 2014 at the Dialogue on Strengthening Connectivity Partnership held before the APEC summit. The company was registered on 29 December 2014. The project is priority for the state; Jin Qi, who used to be
40 deputy governor of the People’s Bank of China, chairs the Fund. The Fund is to have about $40bn to manage. However, at the beginning of 2016 only $10bn was available at the Fund.
Figure 21: Sources financing Silk Road Fund 5% 15%
15% 65%
China’s gold and currency reserves
China Investment Corporation
Export-Import Bank of China
China Development Bank
Source: RISS
Creation of the Asian Infrastructure Investment Bank (AIIB) was China’s initiative put forward in 2013. In 2014 a memorandum on organizing the bank was signed by 21 countries. In 2015 the number of participants expanded to 57. The main reason for the AIIB creation was China’s desire to reduce dependence of the world economy on Western financial institutions, such as the World Bank and the IMF that, according to Beijing, serve the interests of the USA. Russia supported the idea of creating a new investment instrument, because it practically does not have any influence at the IMF and WB. Moreover, creation of the AIIB corresponds to Russia’s policy of the “turn towards Asia” proclaimed after the beginning of the sanctions war with the West. Moscow hopes it may substitute the currently unavailable Western credits with borrowings from Asian banks, including the newly established organizations. On 29 June 2015 representatives of 57 countries signed an agreement on creating the bank. China, India and Russia are its largest stakeholders with 26.06%, 7.5% and 5.92% votes respectively. China Development Bank may become another investor in the Silk Road project; the bank management promised to allocate up to $1 trillion in credits to Silk Road projects until 2020. China pursues strategic goals in developing the Silk Road Economic Belt: facilitating development of its western provinces and tying up Central European states. Infrastructure construction always creates conditions for development of territories. Chinese citizens living in western regions will have a possibility to visit the capital city and coastal areas of the country. It will strengthen the state’s integrity, which is important amid separatist sentiments in the Xinjiang Uygur Autonomous Region of China. A possibility for citizens to travel from coastal regions to northwestern areas and vice versa will facilitate formation of the feeling of integrity of the country. Russia solves a similar task by subsidizing flights from its Far East to the European part of Russia and back, and from Russia’s western enclave, the Kaliningrad Region, to Moscow. 41
Another strategic task is integration with Central Asian states on the cultural and social level carried out through creation of communications and infrastructure. Central Asian states maintain close cooperation with Russia inter alia because of social and cultural ties established in Soviet times. These days Beijing wants to refocus Central Asian onto China; this is why construction of corresponding infrastructure is financed. Railways and highways will provide for intensified interaction with these countries. China’s focus on Central Asian republics is reflected in the transportation segment of the Silk Road Economic Belt project. Initially China planned to build a railroad without Russia’s involvement. It was to be laid from railways in the east of China through the whole country to its western border and to Kazakhstan where it was to split into the Central and Southern Corridors. The Central Corridor runs through Kazakhstan to the cities of Atyrau and Aktau. There is a port in Aktau where cargo is transshipped and delivered via the Caspian Sea to ports in Azerbaijan. From Azerbaijan the cargo is transported to Europe by railroad through Georgia and Turkey. The problem of the Silk Road’s Central Corridor is that it is necessary to transship commodities twice – in Kazakhstani and Azerbaijani ports. The Southern Corridor is an alternate option. It stretches from Kazakhstan to Kyrgyzstan, Tajikistan, Uzbekistan, Turkmenistan and Iran. From Tehran a railroad runs to Turkey and then to Europe. It is a lengthier route aimed at engaging as many countries as possible rather than at speedy delivery of cargo from China to Europe. Plans of laying interconnecting railroads from Southern Corridor to India and Pakistan have, probably, the same purpose. This intention is confirmed by the fact that out of three projects Silk Road Fund has participated in since its establishment, one project stipulates construction of a hydroelectric power plant in the northeast of Pakistan by 2020. China Three Gorges Corporation and Private Power and Infrastructure Board of Pakistan signed a corresponding memorandum. Investments in this endeavor to be financed by Silk Road Fund total $1.65bn. The common problem of the Silk Road’s Central and Southern Corridors is the tunnel under the Bosporus in Turkey. It is overloaded with the city traffic and local cargo transportation. This is why, within the Silk Road Economic Belt, it is necessary to build a new tunnel under the strait, which requires large financing and a lot of time. Initially China did not consider the Northern Corridor of its railway, but Russia managed to lobby this route. Moscow suggested using the BAM and Trans-Siberian railways to deliver Chinese cargo to Europe. China did not consider that variant because it wanted to solve comprehensive tasks, not just cutting the time of cargo delivery to Europe. Not to be left outside the SREB project implementation, Russia managed to bring its discussion to the multilateral level. Russian state authorities persuaded Kazakhstan to insist on negotiating this project in the format of the Eurasian Economic Community-China. Beijing agreed to this format due to several reasons. Firstly, Kazakhstan is a key element in the SREB project; therefore, Beijing cannot conflict with Astana. Kazakhstan is interested in maintaining the discussion of various options of the infrastructure development in its territory, as it makes the country a logistical hub. This status increases its significance in relations with Russia, China, Central Asian states and Europe. Secondly, creation of the Northern route will enable China to further diversify routes of delivery of Chinese commodities. It is even more significant amid growing threats of destabilization in Central Asia because of penetration of terrorists from Afghanistan into Turkmenistan. Moreover, relations between Iran and Turkey may deteriorate over the Syria issue. Ankara wants Bashar Assad to leave, while Tehran supports him. In this regard, the sides may refuse develop the railway infrastructure jointly. Thirdly, China benefits from the Northern route of the railway in terms of the speed of the cargo delivery. In December 2014 a train with Chinese commodities went along the Northern Corridor from China to Germany through Russia, Belarus, and Poland. It took 21 days, while a standard route by sea via the Suez Canal lasts about 45 days.
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Another advantage of the Northern Corridor is involvement of the transportation infrastructure of Belarus where China carries out several large projects. The China-Belarus industrial park Great Stone near the town of Smolevichi is about 80 sq km. It enjoys a special legal status ensuring comfortable business conditions. The park in located 25km from Minsk, the capital of Belarus, in a unique nature reserve close to the international airport, railways, and the Berlin-Moscow transnational highway. It is planned to build industrial and residential zones, offices, shopping malls, and financial and research centers. Thus, Belarus is also interested in development of the Northern Corridor of the China-Europe railway; this enables Russia to form a good position in the Eurasian Economic Community. However, Moscow is more interested in cargo delivery through the Baltic Sea. In this case, rail transport will travel not to Belarus and Poland, but to Russian ports in the Leningrad Region, where cargo will be transshipped and sent further to Germany. Russia will earn on transit of Chinese commodities. Simple transit of cargo does not generate much profit, but it is possible to earn on transshipment of cargo from one type of transport to another. However, this type of railroad transportation development has not been discussed yet. At present cooperation between Moscow and Beijing in the railroad sphere is focused on the project of a high-speed railway between Moscow and Kazan. This railway should become a section of the large project China-Europe. On 13 October 2014 in Moscow, in the presence of Russian PM Dmitry Medvedev, Russia’s transportation ministry, Russian Railways, China’s national commission for development and reforms and China Railway Corporation signed a memorandum on cooperation in the sphere of high-speed transport. The MoU is aimed at developing the project of Eurasian high-speed transportation corridor Moscow-Beijing, including the priority project Moscow- Kazan. On 8 May 2015 the Russian and Chinese sides, in the presence of Vladimir Putin and Xi Jinping, signed a memorandum. According to the document, the high-speed railway will use Chinese technologies with participation of Russian companies. Besides, Beijing secured the use of Chinese equipment and machinery in construction, which will provide for development of the Chinese industry. In exchange, China pledged to invest about $7bn in the project. In September 2016 Gorky Railway head Anatoly Lesun confirmed this information; he pointed out that China Development Bank planned to allocate about 400bn rubles on laying the Moscow-Kazan railroad. The project’s estimated cost is 1.2 trillion rubles. Construction of the railroad and corresponding infrastructure is to begin in 2017. The Russian side will finance current expenses so far. Russia and China cooperate in the segment of motorways. It is possible to transport cargo by road at present along the same route as the planned railway – from Germany via Poland, Belarus, Russia, and Kazakhstan to China. However, the current quality of roads does not provide for commercial delivery of cargo. Beijing plans to intensify trade in this segment by building high-speed highways. Russia, Kazakhstan and China have agreed to implement the Europe-Western China project. The total length of the Europe-Western China highway is 8,500km, including 2,300km in Russia, 2,800 in Kazakhstan and 3,400km in China. The highway is to run from Saint Petersburg through Moscow, Orenburg, Aktyubinsk, Almaty and Khorgos. The Europe-Western China project will be carried out as public-private partnership; some toll sections will be organized along the route; there will be a possibility to engage independent companies that will become responsible for construction and maintenance of certain highways of this project. It is planned to attract resources of budgets of different levels, as well as private Russian and foreign investments. According to Innokenty Alafinov, first deputy CEO for investment and financial policies of Russia’s state company Russian Highways (Avtodor), the new corridor in Russia will run through and near 23 regions with the total population of 68m people; their Gross Regional Product accounts for 41% of Russia’s GDP. The GDP growth effect until 2045 from creation of the Russian segment of the highway will be 922bn rubles, which will be 1.3% of GDP advance.
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Figure 22: Planned cargo transportation along Russian segment of Europe-Western China corridor
157 160 140 124 120 International 100 95 traffic 80
mln tons 60 Regional traffic 40 24 31 20 17
0 2025 2035 2045
Source: Avtodor
Chapter 9. Dynamics of Russia-China economic relations
The first steps in implementing the Silk Road Economic Belt project have already produced some positive effects for economies of the participating states. In September 2016 China’s vice minister of commerce Fang Aiqing declared that China’s trade with countries along the new Silk Road exceeded $600bn in January to August 2016. In the first eight months of 2016 China invested, through the Asian Infrastructure Investment Bank and Silk Road Fund inter alia, $10bn in countries along the new Silk Road. Chinese companies established over 50 foreign economic and trade cooperation zones in these countries with investments totaling $15.6bn and the number of new jobs created in these countries reaching almost 70,000. In January to August 2016 the bilateral trade between Russia and the PRC reached $44.3bn, which was 1% above the figure registered in the same period in 2015. In the first eight months of 2016 Chinese exports to Russia grew by 8.7% in monetary terms, while imports from Russia dropped by 6.5%, which was largely the result of decline in oil prices and devaluation of ruble. The negative, for Russia, dynamics in bilateral trade began after sharp decrease in prices of energy sources in 2015. According to China’s General Administration of Customs, the trade between Russia and China in 2015 amounted to $68.065bn (-28.6%), including $33.264bn (- 20.0%) in Russian exports to the PRC, and $34.801bn (-35.2%) in imports from China. The trade deficit in the indicated period shrank by 87.3% to $1,537.63bn (2.26% of the total trade), compared to $12.071bn in January to December 2014. Russia was 16th on the list of China’s 20 major trade partners. It is outpaced by the USA ($558.38bn, +0.6%), Hong Kong ($344.33bn, -8.3%), Japan ($278.68bn, -10.8%), South Korea ($275.90bn, -5.0%), Taiwan ($188.56bn, -4.9%), Germany ($156.80bn, -11.8%), Australia ($113.98bn, -16.7%), Malaysia ($97.36bn, -4.6%), Vietnam ($95.82bn, +14.6%), Singapore ($79.67bn, -0.1%), Great Britain ($78.54bn, -2.9%), Thailand ($75.48bn, +3.9), India ($71.64bn, +1.5%), Brazil ($71.60bn, -17.3%) and the Netherlands ($68.27bn, -8.1%). Russia is followed by
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Canada ($55.69bn, +0.9%), Indonesia ($54.24bn, -14.6%), France ($51.42bn, -7.8%) and Italy ($44.69bn, -7.0%). It is necessary to admit that parameters of trade with most partners have negative dynamics. The slowdown in bilateral trade in 2015 was attributed to a number of factors formed in 2014, such as: Slowdown in the pace of economic growth in Russia and China. Decline in world prices of energy sources and mineral resources that account for over 70% of Russian exports to China. Decline in purchasing power of Russian consumers of Chinese commodities due to sharp fluctuations in the ruble exchange rate against major currencies, including yuan. The rising pressure of the downward trend in China’s foreign trade that began in 2014.
The most substantial contribution to reduction in the Russia-China bilateral trade in 2015 was made by Russian imports from China that fell by 35.2%. Russian and Chinese analysts attribute this situation largely to the ruble devaluation and fluctuations in the ruble exchange rate. Amid high currency risks, Chinese exporters were very careful in making foreign trade contracts, while Russian importers had to reduce imports of consumer goods (clothes, footwear, knitted wear, and toys) over reduced purchasing power of Russian consumers.
The negative dynamics affected practically all main items of Russian imports from China, except vegetables (+4.2%) and fruits (+5.9%).
Table 6: Commodity groups of Russian imports from China
January-December 2015 Change against the Share in No Item Imports same total ($ mln) period in imports, % 2014, % Machinery and 1 12,528.43 35.91 -35.6 equipment, including: Power machinery and equipment, recording 5,126.45 14.7 -35.1 equipment Energy, technological and other equipment, machine 5,233.53 15 -33.7 tools, pumps, and etc. Motor vehicles, tractors and other means of 1,133.87 3.24 -52 transport 2 Furs and fur products 1,959.88 5.63 -23.7 3 Leather products 556.66 1.6 -43.3 4 Textiles 2,596.53 7.47 -28.6 5 Footwear 1,846.67 5.31 -40.4 6 Knitted clothes 2,161.15 6.2 -32.2
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Chemical goods, 7 3,151.88 9.08 -30.2 including: Plastics and plastic goods 1,125.31 3.24 -42 Organic chemical 672.61 1.92 -1.8 compounds Chemical yarn 350.82 1 -10.1 Inorganic chemicals 240.31 0.68 -25.3 Other finished textile 8 (bed linen, bedspread, 674.77 1.92 -59.5 curtains) 9 Toys, sports gear 610.82 1.75 -34.1 10 Ceramic products 280.48 0.8 -49.8 11 Meat 20.22 0.07 -25.9 Furniture, mattresses, 12 1,049.26 3.01 -56.9 lighting equipment Commodities made of 13 1,014.64 2.9 -36.8 ferrous metals Products made of 14 vegetables, fruits and 315.66 0.91 -28.4 nuts Mineral fuel, 15 177.41 0.51 -3.7 oil/products Goods made of non- 16 400.85 1.1 -32 precious stones Vegetables, peas, 17 347.42 1 4.2 beans, and other 18 Fruits 342.52 1 5.7 19 Tableware 326.86 0.94 -35.2 20 Textile fabric 147.11 0.43 -9.8 Ready-made meat 21 227.25 0.66 -38.3 products Oil bearing seeds and 22 27.96 0.08 -35.5 fruits 23 Glass and glassware 194.1 0.54 -39.9 24 Crops 2.2 0 -60.3 Source: Integrated Foreign Economic Information Portal
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Figure 23: Structure of Russian import from China
Machinery and equipment
36% 37% Clothes and textiles
Chemical products
Footwear
Other 5,50% 11,20% 10,30%
Source: Ministry of Economic Development of Russia
Russian exports to China went down by 20.0% in monetary terms, but grew 2.7% measured by volume. Such a difference in the cost and volume of exports stems from their structure; hydrocarbons and mineral resources account for over 70% of Russian exports to China, and prices of these commodities were fluctuating on world markets in that period. Main groups of commodities exported to China in 2015 had the following parameters: Mineral fuel, oil and petroleum products accounted for 60.7% of the cost of exports. The volume of their exports eased back by 0.2% to 65.60m tons; their cost plummeted by 32.2% to $20.19bn. Supplies of crude oil rose by 28.2% to 42.43m tons, while its cost plunged by 31.1% to $17.23bn. Exports of fuel and lubricants, including coal, diesel fuel, and liquefied natural gas, reached 23.17m tons (-28.2%). Their cost plummeted by 37.9% to $2.96bn. Electrical energy supplies in 2015 amounted to 3,411.46m kilowatt/h (-9.9%) worth $134.92m (+2.1%). The second largest group of commodities exported by Russia to China was wood and timber materials that accounted for 9.39% of exports. In 2015, exports of these commodities rose by 8.0% to $3,077.57m, and by 12.1% to 16.18 mcm measured by volume. Round timber accounted for 41.6% (49.3% in 2014) of total timber exports; the cost of supplies dropped by 17.0% to $1.280.81m. The third largest group is non-ferrous metals with a 9.06% share in total exports. Their supplies jumped by 83.3% to $3,016.57m amid 39.2% growth to 331,460 tons. Exports of copper skyrocketed by 335.5% to 118,790 tons, which was 271.9% rise to $747.73m. Nickel exports expanded by 157.4% to 194,560 tons with their cost surging by 77.8% to $2,280.80m. Supplies of Russian aluminum to China retreated by 79.9% to 15,190 tons with their costs plunging by 69.3% to $47.62m.
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Fish, shellfish and crustaceans occupy the fourth place (3.54%) in the structure of Russian exports to the PRC. Supplies of this group eased back by 0.3% to 822,270 tons with costs going down 7.6% to $1,170.83m. Salmon exports shrank by 13.7% to 24,710 tons, while their costs dropped 30.9% to $57.92m. Supplies of Pacific cod rose by 9.1% to 561,000 tons, but their cost went down by 7.6% to $659m. Exports of Pacific herring declined by 26.4% to 97,500 tons worth $50.63m (-23.8%). The fifth most popular group of commodities in Russian exports with a 3.27% share was chemical products; their supplies eased back 6.1% to $1,088.65m, or by 34.6% to 2,588,600 tons measured by volume. Exports of inorganic chemicals demonstrated positive dynamics with 57.4% growth to 2,077,350 tons, or 127.0% jump to $391.15m. Supplies of organic compounds decreased by 32.6% to $235.35m, or by 12.6% to 199,940 tons. Exports of rubber and rubber goods added 27.6% reaching 118,220 tons, but dropped 8.2% to $209.71m in monetary terms. Supplies of plastics and plastic goods shrank by 40.4% to $233.25m or by 18.7% to 184,800 tons. The sixth largest (2.73%) group of commodities in the structure of Russian exports to China is ores ; their supplies amounted to 7.89m tons (+18.1%) totaling $906.15m (-25.0%). Supplies of non-sintered iron ores jumped by 129.7% to 49.98m tons worth $1,225.27m (+5.6%). Exports of agglomerated iron ores rose by 8.2% to 1,004,740 tons, but their costs eased back by 36.3% to $74.67m. Supplies of copper ore shrank by 100%, while nickel ore exports doubled and reached 51,100 tons worth $15.21m. Exports of lead ore increased by 23.7% to 192,640 tons and by 1.2% to $209.60m. The seventh position in the structure of Russian exports to China (2.52%) is occupied by paper pulp and cellulose. In 2015 supplies of these commodities went up by 13.3% to 1.41m tons, or by 6.3% to $835.57m. The eights place with a 2.61% share is taken by fertilizers. Their exports dropped by 10.4% to 2.66m tons, and their costs lost 8.7% reaching $866.89m. Exports of potassium chloride decreased by 16.8% to 2.17m tons, or by 16.8% to $671.67m. Supplies of multiple-nutrient fertilizers rose by 47.9% to 447,420 tons or by 49.9% to $180.65m. Machinery and equipment occupy the ninth position; their share in total exports went up from 1.12% in 2014 to 2.04% in 2015. These supplies increased by 44.6% to $684.09m. There was growth in supplies of power engineering equipment by 83.6% to $390.68m, aerial devices by 4.3% $107.24m and electric equipment by 18.2% to $50.74m. The tenth place in the structure of Russian supplies to China belongs to precious and semiprecious stones with a 0.87% share. Supplies of products of this category dropped by 42.7% to $292.43m.
Table 7: Main groups of Russian commodities exported to China
No Item January-December 2015 Difference Jan-Dec Share in 2015 vs. Exports, $ mln total Jan-Dec exports, % 2014, %
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Mineral fuel, oil, 1 petroleum 20,187.07 60.7 -32.2 products, including Crude oil (42.43m tons, 17,232.97 51.6 -31 +28.2%) - fuel and 936.51 2.7 -46.4 lubricants - other 41.52 0.12 -60 lubricants - electrical 175.46 0.51 6.7 energy Timber and 2 timber 3,125.94 9.39 -1.2 products Non-ferrous 3 metals, 3,016.57 9.06 83.3 including: - nickel and nickel 2,280.8 6.84 77.8 products - copper and copper 647.73 1.95 271.9 products - aluminum and aluminum 47.62 0.15 -69.3 products Fish, 4 shellfish, and 1,170.83 3.54 -7.6 crustaceans Chemical 5 products, 1,088.65 3.27 -6.1 including: Organic chemical 235.35 0.72 -32.6 compounds Rubber and 209.71 0.63 -8.2 rubber goods Plastics and 233.25 0.72 -40.4 plastic goods Ore, slag, 6 906.15 2.73 -25.1 ash
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Paper pulp, 7 835.57 2.52 6.3 cellulose 8 Fertilizers 866.89 2.61 -8.7 Machinery and 9 684.09 2.04 44.6 equipment, including: Power, technological and other 390.68 1.17 83.6 equipment, tools, pumps, and etc. Electric machinery and 50.74 0.15 18.2 equipment, recording equipment Aerial devices 107.24 0.33 4.3 Medical, optical 128.73 0.39 20 devices Precious and 10 semiprecious 291.23 0.87 -42.7 stones Source: Integrated Foreign Economic Information Portal Thus, the structure of Russian exports to China did not change much in 2015. Mineral fuel, oil and petroleum products (60.7% of total exports to the PRC), timber (9.39%), non- ferrous metals (9.06%), chemicals (3.27%) and ores (2.73%) remained major groups of commodities exported to China.
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Figure 24: Structure of Russian export to China
13%
3,30% Mineral fuel, oil, petroleum products 3,80% Timber and timber products
8,70% Non-ferrous metals, including:
61,90% Fish, shellfish, and crustaceans
Chemical products
9,30% Other
Source: Ministry of Economic Development of Russia
However, there were some significant changes in parameters of Russian exports in 2015. The most dynamic growth was registered in ferrous metals (+379.0%), which is attributed to increased supplies of tubes and pipes for oil and gas wells and pipelines. Total supplies reached 1,249,000 tons worth $135.78m. The main project that required larger exports of this produce was the beginning of construction of a Chinese segment of a trans-border gas pipeline from Russia in June 2015. The positive dynamics was observed in exports of non-ferrous metals that increased by 83.3% to 3,016.57m tons. It seems that China expands exports of non-ferrous metals as strategically important products required to implement the Made in China 2025 initiative on upgrading the processing industry. Supplies of machineries and equipment advanced by 44.5% to 684.09m tons, which rose its share in Russian exports to China to 2.04% compared to 1.12% in 2014. Supplies of power engineering and electrical equipment are carried out within a contract on building the second line of Tianwan NPP. There was significant increase in exports of agricultural products and foodstuff. According to China’s customs figures, supplies of milk, dairy products, eggs, honey and foods of animal origin rose by 69.4% to $1.6m or by 62.4% to 553,500 tons measured by volume. The cost of exports of fruits and nuts expanded by 84.2% to $89.2m, and they became 81.1% larger in volume (20,200 tons). Supplies of cereals increased by 162.3% to 89,400 tons and by 106.7% to $17.1m. Exports of flour and cereals products grew by 63.8% to 15,800 tons, and by 44.1% to $6.1m. Supplies under the category “oil bearing seeds and fruits, other seeds and fruits, grain and medical plants” rose significantly – by 411.5% to 413,300 tons measured by volume, and by 387.8% to $153.7m in monetary terms. Supplies of fat-and-oil products went up by 838.0% to 82,500 tons worth $74.7m (+775.9%). Positive dynamics was observed in such categories of foodstuff as meat and crustacean products, sugar and confectionery products, cocoa and cocoa products, cereal grain products, vegetable and fruit products, and alcohol and soft drinks. Considering the above parameters and measures taken by the sides on developing trade of foodstuff, it seems there are premises for further increase in exports of Russia’s agricultural produce to the PRC.
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Conclusion A third dancer may soon join the Russian-Chinese tango: the United States. The Russian elite is waiting to see how Trump intends to implement his policy of fighting China; how sincere he will turn out in his intentions expressed during the election campaign; and what Russia’s place in his plans will be. Supporters of closer co-operation with China are actively running a campaign in the Russian media on the subject “You cannot trust the US, but China will not forgive us betrayal.” Igor Sechin as the main supporter of closer co-operation with China during the first few days of 2017 pointedly prolonged the agreement with CNPC on oil transit through Kazakhstan for five years. In addition, the sides agreed that oil supply will be increased by 56 million tonnes. Even without that, however, it is obvious that Putin will not shoot from the hip and change his policy on China sharply. Distrust in the West will not pass quickly. Besides, development of co-operation with China has accelerated indeed in the last three years. Illustratively, China’s DF-41 intercontinental missiles stationed near the Russian border at the beginning of 2017 caused no panic or even concern either in the Kremlin or in Russia as a whole. This is despite the fact that many people in Russia like to speak about “Chinese threat” to the Russian Far East. Russia increasingly often does joint military exercises with China. Co-operation in the defence industry serves as the basis for our economic co-operation. The countries have begun joint production of armaments and joint research and development is under way too. For example, China is trying to create a new steam catapult for its aircraft carriers (their construction is a significant part of China’s naval doctrine). It co-operates actively on the subject with the Crimean testing ground. China is not afraid of co-operation with Crimean companies and pointedly ignores sanctions against Russia. Co-operation in the energy sector develops very quickly. To Russia, China is an important buyer – and with a tendency towards growth in purchases too. Russia to China is an important supplier. Oil supply is important not only in terms of volume. Oil is mostly supplied without transit through other countries and without the use of marine routes vulnerable from a military point of view. This is important to China. The same goes for the Power of Siberia gas pipeline which is being built actively as one of Gazprom’s priorities (the media often says the opposite, but this is not true). However, co-operation is no longer confined to the defence industry and oil and gas sector. The number of joint projects in other sectors of the economy is also growing. For example, China Railway Construction Corporation will build three Moscow Metro stations by 2019. Plans are under consideration for assembling Chinese lorries and buses in the Maritime Territory. There have been cases of Chinese goods supplied to government agencies as Russian. For example, a great scandal broke because of supply of Chinese Hytera radio transceivers as the Russian brand Erika. Chinese investment is coming to Russia increasingly actively. Its total volume is unknown, though; there are no reliable statistics here. Estimates of cumulative Chinese investment in the Russian economy vary from 1.5 billion to 35 billion dollars. However, the main problem in our bilateral relations still remains. This is a certain fear of each other. Indeed, it would be unwise not to develop relations with such a powerful neighbour. However, distrust in China does not disappear along with increase in oil supply and the arrival of Chinese money in the Russian economy. The Russian elite understands China’s pragmatic interest in Russia and fears it. Hence Putin seeks to balance China in the east with co-operation with other countries, primarily Japan and South Korea. Here Putin is waiting for offers. He is waiting for them from Trump too, though, in just the same way. Of course, it is not about primitive “betrayal” of China. The question is how to develop a strategy for balancing between the world’s two main economies: the US and China. This is in fact what makes today Russia’s main task in foreign policy.
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