On February 4th 2022 China's President Xi Jinping and Russia's President Vladimir Putin met in Beijing before the opening ceremony of the Winter Olimpics that China hosted. The summit resulted in a joint statement on the situation in global international affairs in which China and Russia expressed their alignment and joint support on the main issues of the current geo-political agenda and in a series of business deals, with new contracts for Russian oil and gas to China between Rosneft, Gazprom and CNPC. The main outcome of the agreements is a greater diversification of the foreign trade options for both countries.
The deal also coincided with rising geopolitical tensions, higlighting that both Russia and China were seeking to hedge against geopolitical risks. The liberalization efforts in China’s domestic gas market and flexibility of LNG supply contracts suggest rapid increases in LNG flows to China, but also inevitably lead to higher import dependence on seaborne flows, a source of strategic vulnerability that Beijing has long sought to mitigate. Russia and China also need to manage their exposure to Europe (either as an export market and as a global LNG price maker).
For China, happiness is multiple supply sources. A new agreement with Russia providing for additional 10 bcm of natural gas sourced from Russia’s Far East (evidently from Sakhalin) serves to diversify China’s gas import portfolio with a relatively low-priced option (compared with LNG). By expanding supplies of Russian gas priced on the basis of an oil-indexed formula, China is hedging against price volatility in the traded gas markets.
Even the lowest estimates for China’s future gas needs foresee an incremental 175 bcm of demand through 2030. Most forecasts for China’s domestic production converge at around 300 bcm in the 2030s, suggesting that around half of the demand increment will be met with domestic output. But this still leaves at least around 90 bcm of additional import requirements. The deal thus comes at an opportune time from China’s perspective, with rising gas demand in China and in the context of highly volatile global LNG markets.
It is worth noting that there are no fast deals in the gas business. It took Russia and China over 10 years to negotiate their first major gas deal: an intergovernmental agreement (IGA) on the construction of Power of Siberia (PoS) pipeline and the matching pipeline infrastructure in China and a long-term Sales and Purchase Agreement (SPA) for the supply of 1 tcm of gas over the period of 30 years via PoS, with annual deliveries of 38 bcm per annum. The seemingly surprising speed with which the present agreement for additional 10 bcm was signed is due to the fact that this was merely the extension of the 2014 deal. Its basis was laid in December 2017 when a Heads of Agreement (HoA) was singed for Russian gas supplies to China via the ‘Far Eastern’ route. The HoA defined the key parameters of the future SPA, including gas volumes, start of deliveries and the schedule for their ramp up, and the border crossing point.
According to Gazprom, the new contract signed with CNPC on February 4, 2022 is a long-term SPA for supplying to China 10 bcm of pipeline gas per annum over 25 years from Russia’s Far East in addition to the 38 bcm via PoS over 30 years, and bringing the combined annual gas deliveries of Russian gas to China to 48 bcma under the two SPAs.
The pricing terms of the contract are apparently the same as in the 2014 agreement, with oil indexation and a ~10% slope, making Russian gas supplies competitive against imported LNG in China’s northern provinces and potentially further south, in the Beijing-Tianjin-Hebei area.
There is an existing gas pipeline Sakhalin-Khabarovsk-Vladivostok (SKV) that connects offshore gas fields on Sakhalin with Russia’s mainland and runs down to Vladivostok along the long stretch of the Russia-China border. The availability of the already existing SKV gas pipeline and availability of Sakhalin gas make this a relatively low-cost option for ramping up Russian pipeline gas exports to China quickly. To be sure, adding several compressor stations to increase the throuput capacity of the pipeline and building a relatively short spur to China will be needed. Ealier, Gazprom was indicating Dalnerechensk, a location at approximately mid-point of the pipeline section between Komsomolsk and Vladivostok, as a possible border crossing into China for this route. It will also be necessary to create the matching pipeline infrastructure in China to have the ability to take Russian gas in this area.
Alternatively, Russia would need to build a new 580 km connector pipeline between SKV and PoS 1 at Blagoveschensk. In the latter case, the Chinese would only need to add addtional compressor capacity on their already existing receiving pipelines to accomodate addtional Russian gas deliveries. Neither side said which option is going to be realized at this point, so it remains an important signpost to watch.
For Russia, connecting PoS 1 with SKV would mean access for pipeline gas to Russia’s marine terminals on the Pacific coast and a possibility to build new LNG terminals there in the future. This is not something Russia is planning in the near term, since the costs of such move are very high. The long-term value of the unification of the East Siberian and Far Eastern parts of the gas pipeline networks is tremendous, however, since it would be a safeguard against the threat of a monopsony-type behaviour by China.
In any case, it seems to be plausible that first deliveries by this route might commence as early as in 2024. But before they reach the planned 10 bcm per year level, several hurdles must be overcome, related primarily to upstream challenges of additional gas production on Sakhalin.
The newly agreed SPA does not mention specific gas fields as sources of supply. But a review of the options available to Gazprom narrows the choice of options to Sakhalin 3 project, and, more specifically, to South Kirinskoye field as the only one with sufficient uncommitted gas reserves. Yuzhno-Kirinskoye is a true crown jewel among gas fields developed by Gazprom on Sakhalin, the largest field discovered so far in the offshore Sakhalin acreage. According to Russia’s Ministry of Natural Resources, its A+B1+C1 gas reserves equal 584.5 bcm (roughly corresponding to proven and probable reserves under international classifications). Gazprom reports that total C1+C2 reserves at the field comprise 711.2 bcm of gas, 111.5 mt of recoverable gas condensate and 4.1 mt of recoverable oil. The expected annual gas output for Yuzhno-Kirinskoye is 21 bcm.
Bringing South Kirinskoye into production, however, became problematic after the US introduced the specific sanctions against this project in 2015.
The development plan for South Kirinskoye involves the subsea technology (remotely operated subsea manifold) provided by US-based companies. Gazprom has been trying to figure out ways to procure alternative technological solutions and offshore equipment that until recently was almost entirely imported. Currently, Gazprom says that production at Yuzhno-Kirinskoye is going to start in 2024.
Another important point related to Russia-China future gas plans is that an even bigger deal is still in the making, and it might become a real game changer for the future Russia’s gas industry. For many years Gazprom has been trying to negotiate a deal on supplying gas to China from Russian gas fields in Western Siberia.
But the Altai pipeline that was supposed to use some of the existing pipeline infrastructure and add new sections to reach a short stretch of the common border between Russia and western China hasn’t taken off because of a lack of interest from China, which receives gas from Central Asia in this area. China’s Western provinces are large coal producers and consumers, which also have large potential for renewable energy. Expanding the East-West pipeline infrastructure to accommodate higher volumes of gas imports to its westernmost provinces is not an appealing proposition. Moreover, transporting piped gas to the largest consumer hubs along the Eastern coast incurs transport costs estimated at $3-4/mmbtu, where the gas also competes with LNG supplies.
At present, Gazprom has developed a new idea: to build a pipeline that would connect a new giant Russian gas province on Yamal with China via a transit pipeline through Mongolia (Soyuz-Vostok). This plan envisages additional annual deliveries of 50 bcm per year to China’s northern regions. Connecting gas fields in the NPT region to this new pipeline is also a possibility.
Russia and China continue to negotiate, and one important difference from the earlier years seems to be a pragmatic acceptance by both sides of a possibility to include third-party transit (via Mongolia) into their plans. At this writing, Gazprom has completed negotiations with Mongolia and agreed the detailed transit route with the approvals for the right-of-way and completed the feasibility study for the pipeline. On February 28, 2022, Gazprom reported that design and survey work started on Soyuz-Vostok pipeline.
Obviously, for the project to move ahead a new giant SPA with China will be needed. The project, if realized, can for the first time introduce competition between Europe and China for Russia’s gas from Yamal and NPT. Before the present conflict in Ukraine and a catastrophic rupture of economic ties with Europe, Gazprom was probably considering the project as part of its gradual diversification towards China by the early 2030s when this would be a viable alternative to gas exports to Europe should gas demand there falls as a result of a fast energy transition.
The conflict in Ukraine has created a new reality in which Europe is going to reduce its energy dependence on Russia as soon as possible and regardless of collateral damage. For Russia, this means that it must accelerate its Pivot East, or its leverage with Europe is reduced to nothing. In turn, this makes China a clear winner since it would be able to use the situation to secure Russian oil and gas at discounted prices. Russia will now need the Yamal-to-China route more than ever. The Chinese are going to be, as they say, "in the catbird seat'!
The deal also coincided with rising geopolitical tensions, higlighting that both Russia and China were seeking to hedge against geopolitical risks. The liberalization efforts in China’s domestic gas market and flexibility of LNG supply contracts suggest rapid increases in LNG flows to China, but also inevitably lead to higher import dependence on seaborne flows, a source of strategic vulnerability that Beijing has long sought to mitigate. Russia and China also need to manage their exposure to Europe (either as an export market and as a global LNG price maker).
For China, happiness is multiple supply sources. A new agreement with Russia providing for additional 10 bcm of natural gas sourced from Russia’s Far East (evidently from Sakhalin) serves to diversify China’s gas import portfolio with a relatively low-priced option (compared with LNG). By expanding supplies of Russian gas priced on the basis of an oil-indexed formula, China is hedging against price volatility in the traded gas markets.
Even the lowest estimates for China’s future gas needs foresee an incremental 175 bcm of demand through 2030. Most forecasts for China’s domestic production converge at around 300 bcm in the 2030s, suggesting that around half of the demand increment will be met with domestic output. But this still leaves at least around 90 bcm of additional import requirements. The deal thus comes at an opportune time from China’s perspective, with rising gas demand in China and in the context of highly volatile global LNG markets.
It is worth noting that there are no fast deals in the gas business. It took Russia and China over 10 years to negotiate their first major gas deal: an intergovernmental agreement (IGA) on the construction of Power of Siberia (PoS) pipeline and the matching pipeline infrastructure in China and a long-term Sales and Purchase Agreement (SPA) for the supply of 1 tcm of gas over the period of 30 years via PoS, with annual deliveries of 38 bcm per annum. The seemingly surprising speed with which the present agreement for additional 10 bcm was signed is due to the fact that this was merely the extension of the 2014 deal. Its basis was laid in December 2017 when a Heads of Agreement (HoA) was singed for Russian gas supplies to China via the ‘Far Eastern’ route. The HoA defined the key parameters of the future SPA, including gas volumes, start of deliveries and the schedule for their ramp up, and the border crossing point.
According to Gazprom, the new contract signed with CNPC on February 4, 2022 is a long-term SPA for supplying to China 10 bcm of pipeline gas per annum over 25 years from Russia’s Far East in addition to the 38 bcm via PoS over 30 years, and bringing the combined annual gas deliveries of Russian gas to China to 48 bcma under the two SPAs.
The pricing terms of the contract are apparently the same as in the 2014 agreement, with oil indexation and a ~10% slope, making Russian gas supplies competitive against imported LNG in China’s northern provinces and potentially further south, in the Beijing-Tianjin-Hebei area.
There is an existing gas pipeline Sakhalin-Khabarovsk-Vladivostok (SKV) that connects offshore gas fields on Sakhalin with Russia’s mainland and runs down to Vladivostok along the long stretch of the Russia-China border. The availability of the already existing SKV gas pipeline and availability of Sakhalin gas make this a relatively low-cost option for ramping up Russian pipeline gas exports to China quickly. To be sure, adding several compressor stations to increase the throuput capacity of the pipeline and building a relatively short spur to China will be needed. Ealier, Gazprom was indicating Dalnerechensk, a location at approximately mid-point of the pipeline section between Komsomolsk and Vladivostok, as a possible border crossing into China for this route. It will also be necessary to create the matching pipeline infrastructure in China to have the ability to take Russian gas in this area.
Alternatively, Russia would need to build a new 580 km connector pipeline between SKV and PoS 1 at Blagoveschensk. In the latter case, the Chinese would only need to add addtional compressor capacity on their already existing receiving pipelines to accomodate addtional Russian gas deliveries. Neither side said which option is going to be realized at this point, so it remains an important signpost to watch.
For Russia, connecting PoS 1 with SKV would mean access for pipeline gas to Russia’s marine terminals on the Pacific coast and a possibility to build new LNG terminals there in the future. This is not something Russia is planning in the near term, since the costs of such move are very high. The long-term value of the unification of the East Siberian and Far Eastern parts of the gas pipeline networks is tremendous, however, since it would be a safeguard against the threat of a monopsony-type behaviour by China.
In any case, it seems to be plausible that first deliveries by this route might commence as early as in 2024. But before they reach the planned 10 bcm per year level, several hurdles must be overcome, related primarily to upstream challenges of additional gas production on Sakhalin.
The newly agreed SPA does not mention specific gas fields as sources of supply. But a review of the options available to Gazprom narrows the choice of options to Sakhalin 3 project, and, more specifically, to South Kirinskoye field as the only one with sufficient uncommitted gas reserves. Yuzhno-Kirinskoye is a true crown jewel among gas fields developed by Gazprom on Sakhalin, the largest field discovered so far in the offshore Sakhalin acreage. According to Russia’s Ministry of Natural Resources, its A+B1+C1 gas reserves equal 584.5 bcm (roughly corresponding to proven and probable reserves under international classifications). Gazprom reports that total C1+C2 reserves at the field comprise 711.2 bcm of gas, 111.5 mt of recoverable gas condensate and 4.1 mt of recoverable oil. The expected annual gas output for Yuzhno-Kirinskoye is 21 bcm.
Bringing South Kirinskoye into production, however, became problematic after the US introduced the specific sanctions against this project in 2015.
The development plan for South Kirinskoye involves the subsea technology (remotely operated subsea manifold) provided by US-based companies. Gazprom has been trying to figure out ways to procure alternative technological solutions and offshore equipment that until recently was almost entirely imported. Currently, Gazprom says that production at Yuzhno-Kirinskoye is going to start in 2024.
Another important point related to Russia-China future gas plans is that an even bigger deal is still in the making, and it might become a real game changer for the future Russia’s gas industry. For many years Gazprom has been trying to negotiate a deal on supplying gas to China from Russian gas fields in Western Siberia.
But the Altai pipeline that was supposed to use some of the existing pipeline infrastructure and add new sections to reach a short stretch of the common border between Russia and western China hasn’t taken off because of a lack of interest from China, which receives gas from Central Asia in this area. China’s Western provinces are large coal producers and consumers, which also have large potential for renewable energy. Expanding the East-West pipeline infrastructure to accommodate higher volumes of gas imports to its westernmost provinces is not an appealing proposition. Moreover, transporting piped gas to the largest consumer hubs along the Eastern coast incurs transport costs estimated at $3-4/mmbtu, where the gas also competes with LNG supplies.
At present, Gazprom has developed a new idea: to build a pipeline that would connect a new giant Russian gas province on Yamal with China via a transit pipeline through Mongolia (Soyuz-Vostok). This plan envisages additional annual deliveries of 50 bcm per year to China’s northern regions. Connecting gas fields in the NPT region to this new pipeline is also a possibility.
Russia and China continue to negotiate, and one important difference from the earlier years seems to be a pragmatic acceptance by both sides of a possibility to include third-party transit (via Mongolia) into their plans. At this writing, Gazprom has completed negotiations with Mongolia and agreed the detailed transit route with the approvals for the right-of-way and completed the feasibility study for the pipeline. On February 28, 2022, Gazprom reported that design and survey work started on Soyuz-Vostok pipeline.
Obviously, for the project to move ahead a new giant SPA with China will be needed. The project, if realized, can for the first time introduce competition between Europe and China for Russia’s gas from Yamal and NPT. Before the present conflict in Ukraine and a catastrophic rupture of economic ties with Europe, Gazprom was probably considering the project as part of its gradual diversification towards China by the early 2030s when this would be a viable alternative to gas exports to Europe should gas demand there falls as a result of a fast energy transition.
The conflict in Ukraine has created a new reality in which Europe is going to reduce its energy dependence on Russia as soon as possible and regardless of collateral damage. For Russia, this means that it must accelerate its Pivot East, or its leverage with Europe is reduced to nothing. In turn, this makes China a clear winner since it would be able to use the situation to secure Russian oil and gas at discounted prices. Russia will now need the Yamal-to-China route more than ever. The Chinese are going to be, as they say, "in the catbird seat'!
Views expressed are of individual Members and Contributors, rather than the Club's, unless explicitly stated otherwise.
Eurasian Integration in New Realities
18.04.2024
