ESPO: Changing the rules of the energy game

by Vladimir Radyuhin

The year 2010 will see the global energy map redrawn as Russia, the world's largest producer of hydrocarbons, reorients its oil and gas flows from Europe to Asia.
On the eve of New Year, Russia launched a major oil pipeline from Eastern Siberia to the Pacific Ocean (ESPO). For the first time, it is able to ship oil not only westward to its traditional customers in Europe, but also to the ever-growing energy markets in Asia, which already account for a third of the global oil consumption.

Initially, the new pipeline will move 30 mm tpy, but in four years the throughput is projected to increase to 50 mm tons and then to 80 mm tons, or about a third of Russia's current export volumes. Today, more than 90 % of Russian oil exports go to Europe and only 3 % to Asia.
Last year, Russia overtook Saudi Arabia as the world's biggest producer and exporter of oil. The ESPO pipeline will help Russia ramp up oil output to an all-time record of 530 mm tons by 2030 despite declining production at the mature oilfields of Western Siberia.

So far, the first 2,757-km stretch of the East Siberia-Pacific Ocean (ESPO) has been completed. It runs from Taishet in Irkutsk region to Skovorodino near the Chinese border, where a 64-km spur to China has been built. The spur will carry 15 mm tons of oil by 2012 when a 1,000-km pipeline on the Chinese side will connect it to Daqing. Another 15 mm tons will be hauled by rail from Skovorodino to the newly built Pacific terminal at Kozmino 2,100 km further east.
By 2014, Russia will extend the pipeline from Skovorodino to Kozmino and build more pump stations along the 4,188-km ESPO pipeline.

It is symbolic that the first tanker loaded with Siberian oil headed for Hong Kong. China will be the main winner of the new Russian export route. Under a $ 100-bn contract signed last year, it will receive 300 mm tons of oil via the ESPO pipe alone over the next 20 years. Deliveries may double as ESPO ramps up capacity.
The ESPO project will further cement strategic ties between Russia and China. But Beijing will not be able to tell Moscow what to do as the new pipeline gives the latter a choice of customers. When the project was still on the drawing board, China and Japan fiercely lobbied Russia to get exclusive access to the Siberian oil riches. The way the ESPO was eventually routed will allow Russia to sell oil to the highest bidder, be it China, Japan, South Korea or even the United States.

Prime Minister Vladimir Putin said Russia looked forward to winning a much bigger share of the Asian oil market than its current 5%-6 % compared with nearly 70 % for Gulf-originated crude. East Siberian crude, to be marketed under the name of ESPO, is similar or even superior to the Middle East crude and the new pipeline will take it close to Asian customers.
India also stands to benefit from the new pipeline, as it will be linked with oilfields in Western Siberia, including the Tomsk region where India's Imperial Energy has operations. Imperial Energy, bought by ONGC-Videsh from British owners a year ago, plans to quadruple the output to 25,000 bpd by the end of this year. The company, which has 13 licences in Tomsk, plans to bid for more Russian oil assets.

During Prime Minister Manmohan Singh's latest visit to Moscow in December 2009, Russian President Dmitry Medvedev promised to grant India access to several other oil reserves, including the Trebs and the Titov fields in the Timan Pechora region in Russia's north.
The ESPO pipeline will give a powerful boost to the development of Eastern Siberia. The region is fabulously rich in hydrocarbons and other minerals, but their exploration has been hampered by a lack of infrastructure aggravated by hostile climate conditions.

According to Transneft Vice-President Anatoly Bezverkhov, who oversaw the ESPO construction, practically all infrastructures for ESPO had to be built from scratch as the route passed through uninhabited territories that lacked roads, electric lines or any other communication. Hundreds of kilometres of the new pipeline were laid across permafrost; the builders had to cross more than 500 rivers and lakes, blast their way through solid rock and work in freezing temperatures of minus 40 degrees Celsius.
Geologists believe that only 35 % of Russia's oil reserves have been discovered so far. In Eastern Siberia alone, a thousand of likely oil and gas holds have been identified. The construction of the ESPO pipeline is expected to attract multibillion foreign investments in oil exploration in Eastern Siberia that will transform the region.

The ESPO pipeline is set to change the rules of the energy game in Europe as well. For years, the European Union has been trying to dictate its will to Russia taking advantage of Europe being the only market for Russian oil and gas. The EU proposes to ban Russian companies from its retail energy market and moots setting up an "energy NATO" to stop Russia from flexing energy muscles.
Europe has been planning for years to reduce its dependence on Russian oil and gas supplies, but, ironically, it is Russia that has moved to diversify its energy exports away from the European market. By 2012, Russia's natural gas monopoly Gazprom will build a gas pipeline alongside the ESPO oil pipeline. Another gas-pipeline system, Altai, will be built to deliver gas from western Siberia to China.

At the same time, Russia is working to consolidate its position as Europe's irreplaceable energy provider by coordinating its energy strategy with China and former Soviet states of Central Asia in the framework of the Shanghai Cooperation Organisation's "energy club." A gas glut on the European market provoked by the global crisis has forced Russia to scale down its plans to buy all of Turkmenistan's gas for re-export to Europe, but whatever resources have thus been freed will now go to China and Iran via newly built pipelines.
There will be little left for the US-lobbied Nabucco pipeline designed to bring Central Asian and Caspian gas to Europe bypassing Russia. In a further blow to Nabucco, Russia last October reached a deal to buy gas from Azerbaijan, the only gas-exporting ex-Soviet state which previously had no contract to sell the fuel to Russia. On January 1, Azerbaijan also started selling gas to Iran across a Soviet-built pipeline with a throughput capacity of 10 bn cmpy.

Even as Russia undercut European efforts to build the Nabucco pipeline, it pressed forward with expanding it own pipeline network to supply gas to Europe -- the Nord Stream that would connect Russia and Germany across the Baltic Sea and the South Stream running across the Black Sea to south Europe. The new pipelines will bypass transit countries -- Ukraine, Poland and Belarus which have a long history of acrimonious price disputes with Russia. The same goal -- to avoid transit route -- motivated Russia to build a major oil pipeline and a terminal on the Russian coast of the Baltic Sea.
Alternative export pipelines give Russia greater leverage in negotiations with theWest on not only the price of its energy resources, but also the far more important issues of Russia's strategic interests in the former Soviet Union and access to the West's cutting edge technologies that Russia needs to modernise its economy.

The diversification of export routes that reached its high point with the launch of the East Siberia-Pacific Ocean pipeline in December last year is a key part of Vladimir Putin's energy strategy set in motion after he assumed Russian presidency in 2000. In the earlier phases, Mr Putin reasserted state control over the oil and gas sector, cancelled the hugely unprofitable production-sharing arrangements with foreign majors and limited their access to major Russian oil and gas fields.
The next big goal in Mr Putin's plan is to challenge the dollar-denominated oil trade by switching trade in Russian oil to rubles. Mr Putin first declared Moscow's intention to use ruble in its oil and gas transactions in his 2006 state of the nation address. The following year, Russia began trading Russian oil for rubles at the Russian Fuel and Energy Exchange set up for the purpose in St Petersburg. The scheme failed to make an impact partly because the new mix offered for ruble trade, West Siberia's REBCO (Export Blend Crude Oil), could be supplied only in small volumes.

The East Siberia-Pacific Ocean pipeline could act as a game-changer. Tens of millions of tons of East Siberia's ESPO blend supplied along the pipeline to Asian markets would establish a new pricing benchmark and pave the way for large-scale oil trading in rubles. This would generate tectonic shifts in global power equations.
With the launch of a major oil pipeline from Eastern Siberia to the Pacific Ocean, Russia can now ship oil not only to its traditional customers in Europe, but also to the ever-growing energy markets in Asia.