Caspian Oil and Gas: A Game, if not a Great Game
This comment first appeared in the International Institute of Strategic Studies Strategic Survey.
The analogy between the strategic aspects of the development of energy in the Caspian region and the ‘great game’ of the competition between Britain and Russia for influence over the region is often drawn, with its allusions to high level bipolar superpower politics. However, while the label may be journalistically convenient, the parallels between the current strategic positions in the Caspian and their 19th century counterparts are on further examination extremely weak. The ‘great game’ was played out between two players in the context of what amounted to a complete power vacuum within the region. Today, the number of external players is large, their aims far more complex than the rather black and white imperatives of the great game, and we would argue that there is no longer such a convenient vacuum for the external players to fight over.
Perhaps the major surprise to many observers concerned with the region since the fall of the Soviet Union, has been the robustness of the new Caspian states themselves. Most early analyses placed great stress on the competition for influence between Turkey and Iran, assuming that the new states would simply divide into blocks determined by the interaction of forces led by considerations of language groups and religion. Indeed, large sums of money were pumped into the area by concerned countries in explicit attempts to stop the formation of any area of direct Iranian influence. Other early analyses concentrated on the thesis of a fast return to complete hegemony by Russia, reinforced by the fact that all the transport, communication and economic logistics of the area had been carefully designed over the 75 years of the Soviet Union to run to the centre and not radially, and thus to frustrate the viability of independence and so dampen any centrifugal forces. In the event neither scenario has come true, the new states in many cases have been fast to exert independence and forge distinct national identities, and have proved extremely adept at playing other interests against each other, plying courses between Iran and Turkey, between the USA and Russia, and between China and the West. To give but one example, the composition of interests in Azeri oil consortia is no direct result of economic forces, but the result of a very deliberate weighing up of Azeri foreign policy interests.
For reasons of space, we will not here summarise the physical logistics of Caspian oil and gas in terms of all of the proposed pipeline export routes. However, before considering some elements of the strategic positions of the major external players involved in the pipeline politics of the region, it is as well to put Caspian oil and gas within the context of the world market. In short, Caspian energy is very considerably less important than many political analyses have implied. There are three main reasons why it would be unwise to be carried away by the potential of this oil; namely size, cost, timing and marketability.
Much of the inflation of the real importance of Caspian oil has derived from US State Department estimates that placed the potential ultimate recoverable reserves of oil in the region at around 200 billion barrels. By way of comparison, the combined original recoverable reserves of the two largest fields found after 140 years of exploration in the USA, (the Prudhoe Bay and East Texas fields), amount to 18 billion barrels. The size of the largest oil field in the world (The Ghawar field in Saudi Arabia) is 80 billion barrels. A giant field is usually defined as one with at least 0.5 billion barrels of recoverable oil, and the grand total of such fields ever discovered worldwide currently stands at about 370. The US State Department figures then imply that the Caspian area contains the equivalent of 400 minimum size giant fields, or 16 Prudhoe Bay fields, or two and a half Ghawars, all based on little more than pure speculation and political expediency.
Within the oil industry the 200 billion barrels estimate is greatly derided, but it is that figure which recurs frequently in journalistic and political analysis, and that figure which has stoked up the general and political interest in Caspian energy exploitation. The implication of the figure is that the Caspian is a little smaller in scale as an oil province than Saudi Arabia. This leads in its most extreme form to the conclusion that the Caspian is in some way a potential substitute or means of heavily diversifying away from Saudi Arabia and the Gulf, with all its attendant implications for the direction of US foreign policy in particular.
Despite their near universal quotation, the US State Department figures are generally perceived to be an order of magnitude away from reality. The current proved reserves of the Caspian area as of 1998 are estimated by the Oil and Gas Journal at about 8 billion barrels, and by the BP Statistical Review of World Energy at about 16 billion barrels. The consensus of oil industry forecasts as to the ultimate total recoverable reserves (i.e. including discoveries not yet made) tend to lie in the range of between 25 billion and 35 billion barrels. A better point of comparison is then the North Sea rather than Saudi Arabia, and the possibility of the Caspian serving as a major long term competitor and substitute for the Gulf then evaporates. Instead of the 16 per cent of world reserves the US State Department implies, the true figure is likely to be closer to 3 per cent.
Our second proviso is the pure economics of Caspian operations. Caspian oil is extremely costly, with cost being inflated by the difficulties of moving equipment into the area, by the cost of pipeline construction, and most significantly by the transit fees payable to other countries on potential pipeline routes. Since the Gulf Crisis of 1990-1, oil prices have moved in a range between $10 and $25 per barrel. At the high end of this range, Caspian oil would provide good rates of return. At the low end, it would provide extremely poor rates of return, and any sustained period of low prices would see cause interest in the region wane and development timetables to slow. At the low end, gas development would become completely unviable. In early 1999 we are at the low end of the range, and the profit net of development costs, operating costs, pipeline construction costs and transit fees for currently active or proposed projects is derisory. Given the choice, international oil companies would allocate very little capital to the Caspian, were the lost cost reserves of the Middle East available to them. In this context the potential for the opening up of the Iraqi oil industry represents a major threat to Caspian energy given the latter’s high cost. Iraq has far more oil than the Caspian, production can be increased on a far faster timetable, and it would be extremely low cost. To give but one parameter, Iraqi oil goes through Turkey with transit fees of less than $1 per barrel, while Kazakh oil coming through Russia currently pays about $6 per barrel. Given the number of major deals signed already in Iraq, and the avalanche of deals to be expected should international politics allow them to occur more openly, accelerated Iraqi development would make the Caspian rapidly appear to be a backwater of the international energy industry.
The question of the timing of incremental Caspian production represents our third main proviso about the level of importance that should be assigned to it. In1997, the Caspian area, including the Caspian parts of Russia and Iran, produced about 1.2 million barrels per day (mb/d), primarily from Kazakhstan (0.55 mb/d) and Azerbaijan (0.2 mb/d). Based on the current timing of potential projects, Oxford Institute for Energy Studies (OIES) projections produce a very slow take off in production. On the most optimistic (and probably over-optimistic) timetables, Azeri production reaches 0.4 mb/d by 2000, 0.8 mb/d by 2005, and is 1.6 mb/d by 2010. Base case projections by the OIES allowing for timetable realism place production at slightly less than 1 mb/d in 2010. For Kazakhstan the projections imply production of 0.8 mb/d in 2000, a high of 3.4 mb/d and a more realistic base case of 2 mb/d in 2010. Adding in other areas produces a base case figure for the whole Caspian region of 3.5 mb/d in 2010, equivalent in scale to Norway’s production as of today. The additional production of slightly less than 2.5 mb/d over thirteen years could be matched by an unconstrained Iraq in perhaps three years.
The above is not intended to dismiss the importance of the Caspian, merely to debunk some of the more extended hyperbole that has been produced in the wake of the US State Department reserve figures, and to note that the politics of Caspian oil are considerably more interesting than its impact on the international energy market. Diminishing the importance of the region as an energy province, does not detract from the strength of the strategic aims of the players involved. Those aims are often complex, ranging from regional influence through to the use of Caspian issues as part of other aims. We would argue that there is only one country for the issue is primarily one of energy.
The one external player for whom getting access to resources is the main prerogative is China. Discussions of the Caspian have tended to focus heavily on western concerns, the influence of Russia and Iran, and the problems of the potential western exit routes. Instead, we will begin our short overview of strategic aims with the issues raised by the potential eastern routes. China’s objectives are based on its domestic energy situation, and political influence in the Caspian is seen, not as a prime foreign relations objective per se. Instead they are seen as a means of facilitating the possibility for sourcing oil and gas, with a secondary objective of reducing the possibility that ethnic unrest in western China will receive more active external encouragement.
The major hope for the Chinese oil industry in the early 1990s as it moved into net import dependency, lay in the prospects for production in the Tarim basin in Xinjiang province in the far west of China. With China’s offshore reserves not living up to expectations, the potential for the Tarim was talked up both by the Chinese and by international companies. As the decade progressed, disillusionment set in. The international oil companies were only given very marginal acreage, and the prime acreage held by the onshore upstream national oil company, (CNPC), proved to be extremely disappointing compared to prior expectations. For the state planners, it became clear that the politically important goal of domestic oil self sufficiency was now unobtainable. An expedient change of definition meant that self sufficiency would now include oil produced by Chinese companies, even if that happened to occur outside China. Rather than relying solely on the international market, it became imperative for CNPC to become an international player. In 1997, China launched a diplomatic offensive in Central Asia, and simultaneously CNPC set out to try to sign deals in the Caspian, in Iraq, and as far afield as Venezuela. The most significant deal was that struck in Kazakhstan, winning the Aktyubinsk field, ahead of a number of distinctly surprised US concerns, in a deal worth some $4.3 billion.
What China brought to the table for Kazakhstan had two elements. First, there was the introduction of a further powerful interest into the country, from the Kazakh view providing the possibility of more leverage over other interests. Secondly, the Chinese brought the promise of a solution to the impasse over western exit routes, with the plan to build an oil pipeline into China. From a western viewpoint that pipeline makes little economic sense, but Chinese pipeline and steel economics are radically different. It is also but one element of a series of possibilities under active consideration, (the so-called energy silk road), also involving gas pipelines from Turkmenistan, from both eastern and western Siberia, and future oil transportation options out of the Middle East. With the strength of China’s energy imperative, and the large and growing size of its foreign currency reserves, its potential to eventually exploit the eastern route should not be underestimated. In the interim, the surprise of western companies that the Aktyubinsk deal produced may be repeated elsewhere in the Caspian. In our view a strategic diplomatic policy motivated by energy policy goals is a powerful force for signing deals and getting resources out. By contrast, the other external player governments in the main have a Caspian energy policy which is motivated by diplomatic policy goals.
China is then a special case. Other external governments ultimately have aims which are to some extent obstructionist, either of Caspian development in toto, or of specific development options. In several cases, policy is being driven by satisficing between often divergent internal lobbies and interests, producing policies that have not necessarily been consistent over time. To take the major example, US policy in the region arises from a pot-pourri of concerns. In the starkest terms, the aims are to contain Russian and Iranian influence and to protect the interests of US companies involved. This however masks the operation of a series of powerful lobbies. The list of such lobbies is long, but we would highlight three. First, predictably, the Israeli lobby is important in the context of the relationship with Iran. While many within the State Department see Caspian transit issues as having the potential to allow the start of a break out of the impasse over policy on Iran, and to ease away from the contradictions imposed by the policy of dual containment, there can be no doubting that the Israel lobby has proved to be an impediment. From a purely strategic perspective, Iran is the USA’s (and for that matter Israel’s) natural ally within the region, facilitating southern export options as an alternative to Russian control, and providing the primary bulwark against Iraq. In this context the pragmatism shown in removing objections to Turkmen gas moving through Iran is a hopeful sign, albeit rather small beer in terms of the major choices to be made.
The second lobby we would highlight is less powerful, but still capable of providing obstruction. The Armenian lobby has in fact been very effective to date, in that Azerbaijan has been the only part of the former Soviet Union to face US sanctions. Assuming the Nagorno Karabagh issue is for immediate practical purposes essentially insolvable, the Armenian lobby still has the power to disrupt, and of course the issue means that all proposed southern routes for the bulk of potential incremental Azeri supplies, (the so-called ‘late oil’), have to skirt Armenia either through Georgia and then on to Turkey, or through Iran and then on to Turkey. In terms of US interests solely, the completely impossible Baku to Armenia to Turkey route would have in fact been best in that it would give Armenia a flow of revenue through transit fees, would cut Iran out of a major part of the equation, and remove exposure to the varying instabilities and possibilities of the situation in Georgia.
The third lobby that affects export routes is that group of interests, both human rights and feminist movements, that in reality remove the option of going east out of Turkmenistan through Afghanistan, having of course done deals with all the factions in Afghanistan. That the US company involved with this proposal is the same that currently faces litigation and approbation in the USA over its human rights record in its Burmese operations, only adds to the conviction that this company will be unable to force through the Afghan route.
The interests of the US oil companies involved in the Caspian region have not had major effects on anything more than commercial policy. Those companies are aware of the marginal nature of the oil and gas operations themselves, and influenced by the extreme exasperation and costs incurred by Chevron in the earliest of the new Caspian ventures in the Tengiz field in Kazakhstan. They are also publically opposed to the policy of dual containment, (and privately are extremely vocal in this opposition). They want low cost, diplomatically protected exit routes, and in particular they want rapprochement with Iran, in at least as far as energy operations are concerned.
Given the above concerns, together with the stark and almost brutal objectives of some influential members of Congress plus myriad other minor considerations, US policy is then one of satisficing between groups. Strategically however, the major trend is that the logic for a reformulation of the policy stance towards Iran is growing stronger, subject of course to the constraints of the Israel lobby as a group. In short, it is becoming ever harder to divorce US Caspian policy from the general potage that represents its Middle East policy.
Russian interests are perhaps clearer, but still arise from a coalition of interests. Had geology been placed under the control of Russia rather than that of nature, there would of course be no oil or gas in the Caspian. Given that there is, Russia naturally wishes to exert control through northern export routes, obtain a resolution of the issue of Caspian Sea property rights, (giving Russia an increased share of the spoils), and exert leverage at every stage of negotiations. In addition there is, after the shock of the Chechen crisis, the imperative to contain any expansion of ethnic problems along the southern borders. In the context of the latter, the worst outcome for Russia is then a series of prosperous Caspian states with significant influence from either Iran or the USA. Put in other words, the aim of regional hegemony in the Caspian is not purely one of hegemony as a form of in effect rebuilding the empire, it also meets significant domestic objectives.
While we have underplayed the importance of the desires of US energy companies in the formulation of policy, the same can not be said of their Russian counterparts. They are the major source of cash flow for both the economic and the political system, and each is tied in with some political faction or interest. They are not passive participants, they wield a significant amount of influence, and in general terms their objectives of securing both as much Caspian business as possible and as much rent as is achievable out of their pipeline system, has tempered the Russian tendency towards obstruction. While Russian Caspian policy rhetoric (and western analyses of that rhetoric) are still steeped in strategic concerns, the implementation of that policy has been becoming increasingly pragmatic and driven by more commercial concerns.
Iranian and Turkish concerns also encompass questions of influence, but despite the old analyses of a supposed Iranian and Turkish great game, increasingly the stances of the two countries often incidentally work in each other’s interest. For example, a major uncertainty for northern exit routes to the Black Sea is the Turkish position on wishing to limit traffic through the Bosphorus. While this has an environmental basis, it is also a major bargaining counter for the country whose overall strategic influence and importance was the most drastically reduced by the end of the Soviet Union, as well as reinforcing the desirability of southern routes through Iran. Likewise, while the Iranian approach to Caspian geology would have been the same as the Russian, advancing Iranian routes serves as one lever towards breaking out of international isolation and also gaining influence in the Caspian, while incidentally reinforcing the case for routes terminating in Turkey. Like the Russians, a gamut of internal ethnic issues are involved, the Kurds in Turkey and the ethnic Azeris in Iran, and while these add some complications, overall the general thrust of both Iranian and Turkish policy has been tending towards a more accommodatory approach to achieving solutions to the major Caspian export issues.
In summary, we have implied that the major threats to Caspian energy development come more from economics than politics, and indeed that in any prolonged low oil price scenario their viability will become questionable. However, to the largest extent the question of development is almost a side issue for all bar the new Caspian states themselves and for China. What is really being resolved in Caspian energy negotiations is the nature of those states and their outward orientation, together with the increasing tendency for Caspian energy issues to become a conduit whereby elements of the general alignment of Middle East policies can be altered. To paraphrase a cliche, while the candle in this case may be not prove to be that valuable, the game itself and the way that it is played is extremely important.
