Power of Siberia 2 talk heats up
If at first you don’t achieve positive NPV, try, try again
There are some rumblings in Russia about the Power of Siberia 2, a natural gas pipeline that would connect Chinese consumer markets with Siberian natural gas production. Again. The original Power of Siberia (PoS), signed in 2014 after Putin illegally annexed Crimea, will ultimately send 38 billion cubic meters (bcm) of Russian gas exports to China every year. PoS 2’s prospects are uncertain, but the project seems motivated by geopolitics, not economics.
PoS 2 could actually impose costs on the Russian economy. Although the two sides never disclosed terms for the Power of Siberia (东线天然气管道), some observers believe the contract terms were unfavorable for Russia: Sberbank says the pipeline was “deeply value-destructive.” The economics of Power of Siberia 2 appear even worse from Russia’s perspective. Hydrocarbon prices are in a “lower for longer” paradigm: JKM liquefied natural gas prices (a rough proxy for the price of Russian gas exports to China) fell by ~65% in nominal dollar terms from 2014 to 2019. Russian producers have become more efficient since 2014, but not enough to compensate for sharply lower revenues. PoS 2 could prove even more value-destructive for Russia than the original pipeline.
China might not benefit from PoS 2, either. China could likely procure cheaper natural gas from domestic production, Central Asia, or via LNG. Other forms of energy could prove more appealing than natural gas. Coal is cheap, if environmentally destructive; renewables are increasingly cost-competitive and could render PoS obsolete in a decade or two. The PRC is also running out of capacity for negative NPV (net present value) infrastructure projects, potentially limiting its interest in the project.
Curiously, the People’s Daily drew attention to PoS pricing terms in recent days. According to PD figures and the author’s calculations, Russian natural gas export prices for January and February totaled ~$6/MMBtu, higher than the delivered costs of LNG in the same period, but roughly in-line with Central Asian pipeline gas. China may be drawing attention to PoS prices to signal Russia that it will play hardball in PoS 2 negotiations.
Negotiations may not go smoothly and could last for years. Putin was reportedly annoyed with the Chinese negotiators’ intransigence during negotiations over the first PoS, which dragged on for over a decade. The CCP also needs to convince domestic audiences that it will strike a hard bargain, as foreign aid to Putin could prove unpopular at home amid elevated unemployment. It could also prove controversial for international audiences seeking debt relief during the COVID-19 disaster. Russian domestic public opinion could prove to be unpredictable element during negotiations.
The pipeline might go forward because it furthers the domestic and geopolitical interests of both Putin and the PRC. Putin could receive an infusion of cash and legitimacy; the PRC could funnel economic resources and political support to Putin and other preferred intermediaries in Russia; and overland pipes render the PRC less dependent on major LNG exporters such as the United States and Australia. The PRC and Putin could also opt for a less ambitious project, such as marginally raising capacity along the existing Power of Siberia pipeline by adding compressor stations. The PRC’s actions, including an initial agreement with Gazprom and the People’s Daily article, suggest its cautious interest. With Gazprom facing horrific 2020 numbers, it’s possible that the PRC will splash some cash for Putin and the state-owned Russian gas giant. The Russian side is aggressively promoting the concept and seems much more interested in the project than the Chinese. Stay tuned.
In other news, the crisis in Central Asia is getting worse, with implications for both of its giant neighbors. Thousands of jobless Chinese laborers rioted in Dushanbe after they were left stranded in Tajikistan. Police dispersed the crowd by firing gunshots in the air. How would the PRC have responded if they used deadly force instead? Every Central Asian state is experiencing catastrophic economic and public health losses due to COVID-19, low energy prices, and declining remittances. As Central Asia’s crisis deepens, the PRC political, economic and security footprint in the region will likely expand.
The consequences of COVID-19 will likely not be fully felt for months and perhaps even years. Nevertheless, the political ramifications of COVID-19 are already visible in Russia. A May 6th poll by the independent Levada Center found Putin’s support at 59% in April, his lowest rating since September 1999. Putin could outlast the virus: he constructed Sistema and understands Russia domestic politics better than anyone. At the same time, he’s never confronted a crisis like this before.
The next issue will focus on potential Russian responses to contingencies involving Taiwan. Thank you for reading.
Sections this week:
1) Power of Siberia 2
2) China-Russia
3) Russian economy
4) Russian domestic politics: urban areas
5) Central Asia and Belarus
1) Power of Siberia 2
“[Foreign Minister Wang Yi]: High-level strategic cooperation between China and Russia is a bastion that the “political virus” cannot break! China and Russia will continue to work closely together, shoulder to shoulder, firmly guarantee world peace and stability, and effectively safeguard international fairness and justice!””
China and Russia show their brotherhood
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At a time when the global economy and import and export trade fell sharply due to the impact of the epidemic, the bilateral trade between China and Russia was "unrivaled." In the first quarter of 2020, it grew despite economic headwinds, reaching 25.353 billion US dollars, an increase of 3.4% year-on-year.
China's imports from Russia were $16.2 billion US dollars, an increase of 17.3% year-on-year. The growth rate of China's imports from Russia ranked first among China's major trading partners. In addition, both China and Russia took measures in the early days of the crisis to ensure that major projects in both countries would not be affected by the outbreak.
In December last year, President Xi Jinping and President Putin witnessed the commissioning ceremony of the China-Russia Eastern Gas Pipeline. At present, the project has overcome the difficulties caused by the epidemic and is steadily advancing. In the first two months of this year, Russia delivered 635 million cubic meters of natural gas through the Eastern Natural Gas Pipeline [Power of Siberia] to China, valued at approximately US $129 million.”
Comment: Assuming the figures cited above are accurate, that would place PoS costs at ~$6/MMBtu for January and February. Asian spot LNG prices have traded below $5/MMBtu for much of 2019, and virtually all of 2020, although liquefied natural gas must be “regasified” after arrival in port, which could add about $1/MMBtu.
“Securing its position in Asia may also help the Russian state-owned producer compensate for a potential drop in EU demand – Russia’s primary export market - as the EU strives to become carbon neutral by 2050.
Compared to the route crossing the Russian-Chinese western border, the one via Mongolia would be shorter and lead to China’s most populated area.
This new route also allows Russian gas to be more competitive against China’s other pipeline supplies. China’s largest pipeline imports currently come from Central Asia. Central Asian pipeline gas sourced in Kazakhstan, Uzbekistan and Turkmenistan cost an average $6.28/MMBtu in 2019, Chinese customs data showed.
Russia will also face lower competition from LNG as the vast majority of Chinese import terminals are located over 1,200km south of Beijing. “Chinese buyers have a range of oil-indexed LNG contracts. Slope prices to oil vary, with several in a range of 13-14.5%. Given the falling price of oil these contract prices will fall sharply later in the year. At $60/bbl oil this would mean a price range of above $8-9/MMBtu with a small constant. At $25/bbl these prices could fall below $4/MMBtu,” according to Ed Cox, global LNG editor at ICIS.
Mongolian transit became a possibility as China grew more confident in its political power. “Before, China refused the Mongolian route option for fear of becoming dependent on the transit country. But now China is a very powerful force and so it considers it can withstand any attempt from Mongolia to blackmail it with reliable transit,” according to Igor Yushkov, expert of the National Energy Security Fund and the Financial University under the Government of the Russian Federation. In addition, the trade war between the USA and China reinforced the need for Beijing to diversify supply sources and decrease its reliance on potentially unstable and unreliable routes.””
Gazprom chases China gas expansion – Petroleum Economist
“The St. Petersburg-based company is also moving forward with a plan to build a second, larger pipeline to China via Mongolia, capable of flowing 50bn m³/yr. Russian President Vladimir Putin gave Gazprom CEO Alexei Miller the order to begin the project’s pre-investment phase, involving a feasibility study, designs and surveying work, during a meeting in late March.
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While the Chinese market might accommodate a second Russian pipe, it is debatable how feasible the plan is, just as it is difficult to gauge the return PoS will make on its $55bn cost. This is largely because Gazprom and CNPC have never disclosed their 2014 pricing agreement. However, Russia’s Sberbank CIB describes PoS and Gazprom’s other international pipeline ventures as “deeply value-destructive” in 2018. None of them are anywhere near positive net present value (NPV), the investment bank claims.”
Comment: China and Russia inked Power of Siberia 2 in 2014. The ~1,850-mile-long (~3,000 kilometer) pipeline won’t deliver its full capacity until 2025, however, with costs attributable to the pipeline estimated at ~1.1 trillion rubles, or $16 billion USD. To put this in perspective, the Gulf Coast Express Pipeline, a ~450 mile (~725 kilometer) pipeline project, went ahead in December 2017 and delivered volumes by late September 2019, at a cost of ~$1.75 billion USD.
PoS will deliver more volumes at full capacity than the Gulf Coast Express Pipeline (38 Bcm/yr vs 21.7 Bcm/yr) and over much more inhospitable terrain, of course. Still, the construction pace seems remarkably leisurely, while pipeline costs appear uncompetitive.
Gazprom Considers Second Gas Pipeline To China – Barron’s via AFP
Coronavirus gives Russia-China gas pipeline plan a burst of energy – Nikkei Asian Review
Russia's Gazprom eyes capacity increase on China gas export link – S&P Global Platts
“The pipeline, whose design capacity is 38 Bcm/year, started commercial flows at a rate of some 10 million cu m/d in December last year and will increase flows gradually over the coming years. Gazprom said in a statement it continues to ramp up its production and gas transmission capacities in the east of the country to boost flows to China, including bringing production at the pipeline's main source -- the Chayandinskoye field -- to its maximum."
At Chayandinskoye, the company is setting up the facilities required to bring the field to its design annual output of 25 Bcm of gas," Gazprom said.”
Comment: Instead of building another pipeline, Gazprom might build compressor stations to lift delivery volumes into China. Gas compressors essentially make pipeline flows more efficient and reduce volumes lost in transit: adding more compressors (and/or upstream production) could marginally lift delivered volumes by, say, 3-8 Bcm/year.
“In the first quarter of this year, the bilateral trade volume between China and Russia increased by 3.4% year-on-year, which is particularly commendable in the context of the overall downturn in the world economy…
According to data from the General Administration of Customs of China, China ’s imports from Russia in the first quarter were 16.202 billion US dollars, an increase of 17.3% year-on-year…
In the first quarter, CNPC International Russia produced 120% of its natural gas production plan, processed liquefied natural gas reached 120% of its designed production capacity, and 114% of its completed condensate extraction plan, which effectively guaranteed the orderly progress of Sino-Russian oil and gas cooperation…
Energy cooperation is the most important, most fruitful, and most extensive field in Sino-Russian cooperation. At the end of last year, Russia began to supply gas to China through the Sino-Russian East Route Natural Gas Pipeline [ed note: “中俄东线天然气管道” – Chinese state media has referred to the Power of Siberia as the “East Route” for over 5 years], injecting new impetus into the economic and trade cooperation between the two countries. According to the contract, within 30 years, the gas supply of this project will exceed 1 trillion cubic meters, and the annual gas supply capacity will reach 38 billion cubic meters when the pipeline is running at full capacity.”
Comment: Interesting parts bolded by The Report.
2) China-Russia
Kremlin chides war of words between US, China – TASS
Peskov noted that Moscow develops close and partner relations with Beijing and will continue to do that. "We are cooperating and helping each other to combat the coronavirus infection, to develop vaccines. We exchange information," he said. "We also have contacts with the Americans. Naturally, we hail and are grateful for the assistance offered to us in terms of medical equipment. You know that the Russian side also demonstrated its readiness to extend such assistance at the previous stages of the anti-coronavirus efforts."
The United States has been claiming that China concealed information about the virus’ origin and the epidemic’s scope. Beijing, in turn, expressed regret that "some politicians are tending to use the situation with the virus to demonize China."
“You [Putin] personally deployed and directed the anti-epidemic work, and issued a series of powerful prevention and control measures. We believe that under your strong leadership, Russia will surely be able to control the spread of the epidemic as soon as possible, ensure the safety of people's lives and health, and restore economic and social development.” …
“China will continue to give Russia firm support. I thank the Russia side for its active work for Chinese citizens in Russia. I believe that the Russian side will, as always, provide guarantees for Chinese citizens to work and live normally in Russia.”
Comment: Interesting parts bolded by The Report.
Xi, Putin talk over phone on 75th V-Day anniversary – Xinhua
“Xi said that under Putin's personal guidance, Russia's prevention and control measures are gradually taking effect.
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Putin said the Russian side is willing to learn from China's experience in epidemic prevention and control, and cooperate with China in vaccine research and development. Russia, he added, opposes the attempts by some forces to use the epidemic as a pretext to blame China and will stand firmly by China's side.”
Lavrov castigates attempts to make China pay reparations for COVID-19 damages – TASS
Timestamp: 14 APR, 06:40 [13:40 Moscow Time??]
"Allegations that China will have to pay for the fact that the virus originated there [emphasis from The Report] and they failed to inform others in due time go beyond all boundaries. I have heard that someone in London says that China has to pay three trillion and 700 billion dollars or euro to the European Union to offset the damage caused by the pandemic. Others call for seizing Chinese property overseas if China fails to pay reparations. My hair stands on end when I hear such things," the Russian top diplomat pointed out.”
Comment: Lavrov made the mistake of telling the truth about the virus’ origin, which appears to have led to a dressing down.
Timestamp: 14 April 2020 19:12 [about 13 hours after Lavrov’s initial comments]
“On April 14, Foreign Minister Sergey Lavrov had a telephone conversation with State Council member and Foreign Minister of the People's Republic of China Wang Yi. The ministers discussed the coronavirus pandemic and reviewed the measures taken by both countries to counter it. The officials praised Russia-China cooperation in addressing the practical matters of the pandemic. They confirmed their mutual commitment to promoting cooperation to protect the lives and health of the people of the two countries and to coordinate efforts to fight the pandemic globally. The ministers touched on a number of other pressing items on the bilateral and international agendas, including Russia-China interaction at the UN and UN Security Council, as well as promoting a sustainable settlement in Afghanistan based on the interests of the countries of that region.”
Comment: The timestamp may be more important than the content. It appears that FM Wang Yi gave FM Lavrov a call after the virus origin comments above pointed at the PRC. The CCP has been reluctant to admit that the virus originated in Wuhan.
Ministry greenlights opening of first car bridge between Russia and China - TASS
“The bridge will be open after the coronavirus-related restrictions are withdrawn”
Ambassador says coronavirus imported to China, points to genetic sequence as proof – TASS
“A gene sequence in the novel coronavirus indicates that the virus was imported to China’s Wuhan, instead of emerging there, China’s Ambassador to Russia Zhang Hanhui told TASS Friday.”
Ambassador to Russia criticizes illegal returnees to China – CGTN
“The behavior of Chinese citizens in Russia who went back to China through illegal ways – causing imported cases of COVID-19 – was immoral, said Chinese Ambassador to Russia Zhang Hanhui during an interview on Friday. He added that allegations claiming it was Russia that required them to go back to China is an act of escaping responsibility, and will harm bilateral relations.
"I want to stress two aspects. First, the passenger inspection of the land port between China and Russia will never be opened again until the final win against the virus, and second, Chinese citizens in Russia should arrange well their quarantine life there," Zhang said.
The ambassador predicted that the peak will be in May but it is not clear when the turning point will come. "But Russia will not see a situation as out of control as that of Italy or the United States," he noted. A team of 10 Chinese medical experts arrived in Moscow last Saturday afternoon to help Russia fight the COVID-19 outbreak. The team carried with them urgently needed medical supplies donated by China, including surgical masks, medical masks, N95 masks and medical protective clothing. The experts will hold video conferences with Chinese citizens in Russia, including representatives of Chinese companies and Chinese students, to provide medical supplies and brief them on ways to protect themselves during the outbreak.”
China, Russia see huge potential for trade cooperation despite pandemic – People’s Daily
“The two-way trade volume between China and Russia totaled $25.4 billion in the first quarter of the year, a year-on-year increase of 3.4 percent, according to data from the General Administration of Customs in China…
At the end of March, the transaction volume on AliExpress Russia, an online retail platform under the Alibaba Group of China and its Russian partners, was nearly double that of February, according to Yandex.Money, a Russian fintech company that offers services for accepting and making payments.”
“Some countries such as the United States, uphold "Western centralism" and seek to "shift the blame" to China, while discrediting Russia's anti-epidemic work and attacking the World Health Organization, highlighting its deep-rooted Cold War thinking and double standards of hypocrisy and selfishness.”
3) Russian economy
The harsh summer of 2020 - Vladislav Inozemtsev for Riddle
“This summer, we are probably going to see the deepest economic crisis since the post-perestroika period. Even back in 1998 the economic problems did not reach such a scale and mostly affected major cities. Now, the main areas that will suffer are not the financial sector, as in the past, and not the big business, as in 2008–2009 and 2015–2016. This time, the main blow will land on small private companies serving end users as well as the service sector. This will undermine income for at least 20 million people — one third of Russia’s economically active. At the same time, the main problems will hit the regions. Their budget revenues come from personal income tax, ranging from 20–25% (in the “poorest” territories) to 40–43% (in Moscow and St. Petersburg). Those tax revenues are likely to decline 30–50%. Besides, the federal budget may be slashed (despite all assurances from the authorities). Any budget slash will put the regions in an even more difficult situation.”
Comment: Inozemtsev’s projections appear too pessimistic – but not by very much. As Thane Gustafson wrote, oil prices “make the weather” in Russia but will likely remain suppressed until a COVID-19 vaccine is developed. Russia also appears headed for at least two months of lockdowns; the economy could also face disruptions as migrants from Central Asia and other parts of the former Soviet Union face restricted movements.
Russia’s Economic Woes Continue to Mount During Coronavirus Outbreak – Moscow Times
“Those dynamics have heaped pressure on Russia’s apparent financial strength as the economic costs of the coronavirus continue to mount — for the government, businesses and households. Every extra week of restrictions costs the Russian economy 1% of its annual GDP, Oxford Economics estimates. Meanwhile, a slump in spending and crash in oil prices saw government tax revenues fall 31% in April, federal tax service head Daniil Yegorov told Putin. Revenues from oil and gas exports collapsed by more than half.”
Comment: The IMF is forecasting a real GDP decline of 5.5%, which is largely in-line with most other estimates. That seems… wildly optimistic, no? Declines in oil and gas earnings alone could reduce GDP by 5.5%.
Russian economy’s situation better than other emerging markets, Central Bank says – TASS
“"The policy that we carried out last year and in previous years to prevent the accumulation of vulnerabilities either created buffers that can now be used to stabilize the situation, or really prevented the accumulation of risks. That is why, in many respects, the situation in our country looks somewhat more stable than in similar countries with emerging markets or than [the situation] in previous episodes with the same high volatility in our country," [Ksenia Yudaeva, first deputy chairman of the Central Bank] said.”
Peak Fossil Fuels Is Next Test for Russia’s Battered Economy – Bloomberg
“Russia ranks 109th in the world for renewable energy capacity, according to Bloomberg New Energy Finance. The Energy Ministry aims to increase the share of renewable energy in power generation from under 1% currently to 2.5% by 2024, a fraction of what other countries are planning.”
4) Russian domestic politics
Kremlin expects Moscow officials to draw conclusions from Wednesday’s pass system issues – TASS
Muscovites continue breaking self-isolation rules, says authority – TASS
Moscow mayor cautions lifting quarantine prematurely could lead to second wave of pandemic – TASS
Comment: The Kremlin might seek to re-direct anger from the Regions towards Moscow and St. Pete – and perhaps specifically at Moscow Mayor Sergei Sobyanin.
5) Central Asia and Belarus
Tajikistan has placed about half of Dushanbe employees on unpaid leave in its capital, while several hundred Chinese workers are rioting and demanding entrance to China. Tajik remittances fell by ~50% in March and April and account for about 1/3 of its GDP.
Turkmenistan claims to have no COVID-19 cases, which is almost certainly not true. There are also fresh reports of food shortages, which is a sadly recurring feature of life in Turkmenistan.
Read more at: Eurasianet – Coronavirus Dashboard
Tajikistan sees unusual protests, authorities react with force – Eurasianet
“Travel between China and Tajikistan has been suspended since January, as soon as the potential danger of the coronavirus threat became evident. That has left a large number of now-jobless Chinese laborers stranded. According to official data, around 7,000 Chinese nationals live and work in Tajikistan.”
“Recently, President Xi Jinping held a telephone conversation with Uzbekistan President Mirziyov. The two heads of state discussed how to strengthen bilateral cooperation in the context of combating the normalization of the new coronary pneumonia epidemic, and exchanged in-depth views on international and regional issues of common concern and cooperation between the two countries in international organizations to reach a broad consensus.”
Belarussian foreign ministry strips Russia’s Channel One crew’s accreditation — TV – TASS
“The Belarusian foreign ministry has stripped off accreditation of a TV crew working for Russia’s Channel One after a report on the coronavirus developments in Belarus shot by the group came out, Belarus 1 TV reported Wednesday.”
Kremlin denies Putin criticized Belarus’s Lukashenko for intention to hold Victory parade – TASS
“Kremlin spokesman, Dmitry Peskov called allegations that Russian President Vladimir Putin criticized his Belarusian counterpart Alexander Lukashenko for his intention to hold the Victory parade despite the coronavirus situation "unreliable wild speculations."”
Until next time,
Joe Webster
The China-Russia Report is an independent, nonpartisan weekly newsletter covering political, economic, and security affairs within and between China and Russia. All articles, comments, op-eds, etc represent only the personal opinion of the author(s) and do not necessarily represent the position(s) of The China-Russia Report.