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Russia and China gas deal

Hydrocarbon Engineering,

Russia and China have recently agreed a deal on gas reportedly worth US$ 400 billion. Under this agreement, China will receive 38 billion m3/y of gas in a 30 year arrangement to commence in 2018. According to the Brookings Institute, there has long been a clear logic for Russia and China to agree a deal.

Gazprom has an imperative to diversify its exports away from Europe. European demand growth has been sluggish, and countries continue to look for alternative supplies. In addition, the China pipeline if viewed in Moscow as a tool to spur economic and populations growth in the Russian Far East, one of the federation’s least developed regions.

For China, the main concern has been rising import dependence. Between 2006 and 2013, its gas demand tripled from 56 billion m3 to 169 billion m3, and imports grew from 1 billion m3 to 53 billion m3. Deliveries from Russia will help to plug the supply gap, and also diversify its portfolio of natural gas imports.

Brookings has highlighted how the Ukraine crisis has stimulated even greater impetus towards agreement. Russia has been left isolated from the United States and Europe, and European countries are increasingly impelled to source their gas imports from elsewhere. Meanwhile, the appeal of a bilateral gas pact has undoubtedly increased in China also due to poor air quality. For many Chinese officials, expanding the use of natural gas is regarded as a key weapon in the fight for cleaner air.

Price negotiations

Price had previously been a formidable obstacle to agreement. China National Petroleum Corp (CNPC) was reluctant to part with more than it pays Central Asia suppliers who account for most of China’s pipeline imports. This is perhaps understandably, given that CNPC’s internationally listed subsidiary, PetroChina, lost US$ 4.5 billion in 2013 on pipeline imports (plus another US$ 3.3 billion on LNG imports) due to low domestic sales prices that prevented the company from passing on the full cost of its imports. Meanwhile, Gazprom has been reluctant to sell for less than it sells to Europe.

Following the deal, neither China or Russia have proved willing to reveal pricing details. Brookings has indicated two possible reasons for this:

  • Both sides likely have concerns about how such information will impact existing third party supply arrangements.
  • Keeping the price a secret allows Russia and China to present the agreement on the world stage as an unambiguous ‘win-win’.

Failure to reveal a transacted price has driven analysts to try and back out an implied priced. Brookings holds that rough calculation, based on the reported value (US$ 400 billion), volume (38 billion m3/y) and contract terms (30 years), yields a price of US$ 350/thousand m3. One explanation for this low price might be that the deal does not include equity participation in a Russian gas field for CNPC, something Chinese negotiators had reportedly sought.

Nevertheless, despite the low price, the contract is likely to pay short term dividends for Russia; demonstrating to audiences at home and abroad that the country is not internationally isolated after all.

Adapted from a press release by Emma McAleavey.

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