Russia-China Gas Deal is a Win/Win

by Jerry Byers

July 1, 2015

There is a plethora of debate about the winners and losers in the recent finalization of the Russia-China gas deal. Most of the rhetoric focuses on the seemingly unavoidable trade-off in which Russia has been forced to accept a less than advantageous deal with China and has sacrificed its interests out of desperation brought on by Western sanctions, low oil and gas prices, and a slowing economy.

However, the two pipeline gas deals that are now underway to ship over 60 billion cubic meters (bcma) of gas from both West Siberian brown fields and new East Siberian green fields is neither an “unavoidable trade-off” or a “breakthrough”. It is simply a matter of ideal timing for both parties to complete a deal that has been in the works for many years and can satisfy the needs for both parties in their changing energy needs.WinWin 1

Let us look at the deal in isolation by eliminating the background of geo-political intrigues with Western sanctions being applied to Russia including capital and technology transfers. From this perspective it is easy to see why this agreement is a natural fit. China recently surpassed the U.S. as the largest economy in the world (GDP considering PPP).

China faces growing energy needs, recently agreed to lower emissions due to urban pollution and other considerations, is seeking to lower its dependence on coal, and has likely maxed out its ability to take additional quantities of Turkmen gas (currently accounting for over half of China’s gas imports).

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China’s energy import strategy has been consistent in its desire to obtain a diversity of supply with a wide arrange of supply contracts from several areas of the world and they have invested heavily in upstream projects including East Africa. The natural move for China would be to secure lower cost pipeline gas from additional sources besides Turkmenistan; Russia and Iran (both under sanctions) have the largest gas reserves in the world.

This situation alone seems to be a “no brainer”, but there is more. The current prices for oil and gas give China bargaining strength in completing a deal because their long-term goals are not profit based liked many IOC’s of the West. Instead, their oil and gas companies are tasked with securing energy for the future of Chinese growth and are poised to invest most when the payoff is greatest such as now when prices are near their lowest levels in several years.

Additionally, the new gas deals with Russia secure a few other Chinese objectives besides diversification of supply, lower emissions, and favorable prices. The gas deal coincides with China’s launching the Asia Infrastructure Investment Bank (AIIB) to rival the World Bank and IMF, which are largely controlled by the U.S., Japan, and Europe. Russia has become one of the founding members of the AIIB and recently finished agreements with China and the other BRICS members to contribute $18 billion to the $100 billion BRICS reserve fund, which provides alternative funding for Brazil, Russia, India, China, and South Africa.

Furthermore, the sale of military hardware and technology benefits China and it has recently agreed to purchase a new Russian anti-aircraft system for several billion dollars. Joint Russian-China space programs in the near and distant future are also in discussion. Coincidence? It seems that the gas deal is just part of the strengthening of ties between the two neighbors and the further development of trade.

For Russia’s part, the payoffs from the agreement are plentiful and far outweigh the negative aspects of the deal. Of course, Russia also benefits from the aforementioned participation in the AIIB and BRICS reserve fund as it provides additional capital in Russian development projects especially in the Russian Far East, but there are many more.

First, the two gas pipeline projects will provide Russia with additional security of demand as their current customers, namely the EU, diversify away from Russian gas and lower their consumption. This also includes the guaranteed return on investment necessary to undertake the pipeline projects, as the deal will last 30 years. While the price is not public, there is likely a lower margin than Gazprom would ideally like, but it is just as unlikely that it will be unprofitable. Therefore, the sales will increase revenues for Gazprom and the Russian Federation and will continue do so into the future.

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Next, the projects will be completed with the much needed financing from Chinese banks, which was a factor that had been delaying the finalization for many years. In fact, the recent lowering of deposit thresholds of foreign banks by Russia for investment purposes is helping to finance other upstream projects in Russia. Again, coincidence?

Also, the pipeline projects will assist in the development of the Russian Far East and its gasification, which has long been a goal of the Russian government. The project will bring jobs, improve the infrastructure of cities such as Irkutsk and Khabarovsk, and will stimulate the economies of other Russian cities such as Yakutsk which will be tasked with supplying vast amounts of reinforced concrete.

Lastly, the deal is one of many that are improving Russian-Sino relations at every level with trade and banking forming the foundation. From a security perspective, this is in Russia’s best interest as it strengthens a bridge to the ever-emerging markets of Southeast Asia as a whole and it plants the seeds for future, and possibly more profitable, energy deals with China.

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It is easy to look at some of the areas in which the gas deal with China undermines some of Russia’s strategies and forces them to be more accommodating in the final agreements. The timing of the deal when prices are low and the additional access given to Chinese investors to Russian resources is regrettable from the Russian perspective, but for the Chinese side there are some negatives as well. For example, as China increases its import dependency and shifts its domestic energy path to one that is more reliant on gas and oil, it will be forced to reciprocate these accommodations in the future and perhaps the next deal will be timed to favor the Russian side.

The most important thing to consider is that trade is improving, growth is being created, and producers and consumers are fulfilling their needs. Energy trade agreements such as the latest one between Russia and China need not be contextualized as “breakthroughs” or “unavoidable trade-offs” because the agreements themselves are the goals to which producing and consuming nations aspire to in the first place. At the end of the day, this deal benefits both parties and helps each maintain their sovereignty away from the dominant Western banking and energy institutions.

Jerry Byers

Graduate student of the ENERPO Program (Expected graduation date: 2016). He is a two-time Jack Kent Cooke Scholar and studied at Cornell College where he received a BA in both Russian Studies and International Relations. He also holds an AAT (Associates Degree in Teaching) from Longview College. Areas of specific analysis include Energy Economics and Efficiency, Russian Energy Related Foreign Policy and Development of the Russian Arctic. Address for communication: jrbyers2211@gmail.com

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