The signing this week of a transit agreement to govern the Nabucco natural gas pipeline marks an important staging post in bringing to reality the long-touted energy route, which is projected to run 3,300 kilometers from the Caspian Sea region to Europe. Yet it is important to understand what such a transit agreement is intended to do - and what it is not intended to do.
The agreement, signed in Ankara on July 13 by government representatives of Austria, Bulgaria, Hungary, Romania and Turkey, is best understood by comparison with the contract structure that made the Baku-Tbilisi-Ceyhan (BTC) pipeline possible. Four formally bilateral series of inter-governmental contracts were initialed by Turkey, Georgia and Azerbaijan at a summit of the Organization for Security and Cooperation in Europe in Istanbul in November 1999. Only one of these was a transit agreement. The others included a cost guarantee agreement, the pipeline agreement itself, and the construction contract.
These are naturally interrelated in a complex and inseparable ways. Formally speaking, they were a series of bilateral inter-governmental agreements with side agreements involving energy-industrial concerns. The transit agreement basically concerned the responsibilities of governments and investors; the cost guarantee, those of governments; the pipeline agreement, those of governments, investors and the pipeline management and operating authority to be created; and the construction contract, last three plus the contractors.
Today the skepticism about Nabucco echoes almost point-for-point the skepticism surrounding the BTC a decade ago. To observe this is not to ordain that Nabucco must be built but rather to establish proper perspective. For example, although it is said that there are no committed supplies, nevertheless in June 2008 Bulgaria agreed to buy one billion cubic meters per year (bcm/y) of gas from Azerbaijan, equivalent to one-eight of the pipeline's first-phase capacity, and over one-sixth of Bulgaria's requirements. Yet throughput volume for the BTC pipeline had not been guaranteed at the time of the 1999 Istanbul agreements either.
The potential sources of natural gas for the Nabucco pipeline are many, some more realistic than others. Although Azerbaijan agreed to sell Russia 0.5 bcm/y of gas from the first stage of its Shah-Deniz development beginning next year, and coupled with what according to Gazprom chief Alexei Miller is a guaranteed price that other buyers would have to beat for access to the deposit's second stage, nevertheless it is likely that some gas from Shah Deniz Two will flow through Nabucco. How much gas from Shah Deniz eventually goes to Russia will also depend in some degree upon how well Russia is able to leverage its influence over Armenia for a resolution of the Nagorno-Karabakh conflict in a manner consonant with Azerbaijan's interests.
Azerbaijan has not officially confirmed its participation beyond the quantities promised to Bulgaria but already last year turned down, explicitly for "non-commercial" (read geopolitical) reasons, an offer from Moscow to purchase the whole of its gas production indefinitely into the future (see Euro-Caspian energy plans inch forward, 27 November 2008; Azerbaijan can look the other way, 8 May 2009).
In July last year, Azerbaijan's President Ilham Aliev reported new estimates reserves at Shah-Deniz that doubling the original figures from 600 bcm to 1,200 bcm. At that time, potential finds in five new fields were separately reported by industry figures. Azerbaijan's gas reserves exceed a century of the country's consumption at current rates, and these reserves are set for upward revision.
Egypt, Iraq, and Syria have declared a readiness to supply gas, but these are unlikely in the near and quite possibly also the distant term. Turkmenistan recently declared that it was also ready to do supply gas, and indeed Turkmenistan already supplies gas through interconnections with Azerbaijani rigs in the Caspian sea that flow on into an international network reaching Europe (see New chance for Trans-Caspian pipeline,28 February 2007).
Other possible modalities for Ashgabat's gas to enter Nabucco are through the long-discussed Trans-Caspian Gas Pipeline and via liquefaction in Turkmenistan and re-gasification in Azerbaijan. The route through Iran is unlikely anytime soon, despite the strong representations in favor of this option by Turkish Prime Minister Recep Tayyip Erdogan. Turkmenistan's announcement that it is increasing its exports to Iran from 8bcm/y to 14 bcm/y represents only the fact that consumers in northern Iran desperately need the gas and not the inevitability of Iran's becoming a transit state.
Indeed, Turkey's past experience with Iran, from which it has imported gas for some time, has not been propitious, as planned volumes have rarely been attained and Tehran has shown itself to be unreliable in matters of respecting agreed price and quality contracts.
These are among the very same reasons why India chose not to participate in the once-touted Iran-Pakistan-India natural gas pipeline. Moreover, even before the recent accusations of fraud in Iran's presidential elections and the brutal suppression of unarmed demonstrators in the streets, Iran was unable to offer the predictable sort of business environment and workable legal framework that the recently signed agreements in Ankara offer to the Nabucco partners. This politically directed economic irrationality accounts, more than anything else, for the conditions of the Iran's energy infrastructure and its difficulties in finding foreign partners.
Moreover, Europe has endorsed the principle of holding Iran to account for its nuclear development program in light of Tehran's repeated malfeasance as reported by the International Atomic Energy Agency and to fulfill its obligations under multiple UN Security Council resolutions related to the matter. Regardless what one thinks of this, the fact is that Iran's various acts of commission on the one hand and omission on the other have alarmed the European Union and its members to the point where any energy trade is highly unlikely for the foreseeable future.
Three months ago, Turkmenistan signed a long-term agreement permitting the Nabucco participating firm RWE, a German energy colossus, to engage in development of offshore gas fields and also, notably, gas deliveries. In November last year, following Turkmenistan President Gurbanguly Berdimuhamedow's visit to Germany, RWE created with the Austrian company OMV, another Nabucco principal, the joint-venture Caspian Energy Company for the specific purpose of designing ways to take Central Asian gas across or under the Caspian Sea for destination in European markets.
Beyond this, gas from Kazakhstan's massive offshore Kashagan deposit will need to find somewhere to go (it is illegal to flare it into the atmosphere) when the crude oil under it begins to be pumped out. The pressure under the salt dome makes it unnecessary to pump that gas back in, although it could conceivably go to Tengiz onshore for such a purpose. More economical and sensible, however, would be to consider the Nabucco option for it when the time comes.
Thus the transit agreement is as much a political declaration as an economic document, perhaps even more so. A pipeline that goes through more than two countries always raises questions about how to split up financing. Consequently, the objection that financing has not been found (which was voiced following the BTC signings), while not irrelevant today, is not quite to the point either. With the transit agreement, a major and necessary piece that establishes important certainties about the business environment is in place. Indeed, it should be no surprise that European banks are now ready to talk about financing.
In particular, at the Budapest summit of the European Commission at the end of January this year, the European Investment Bank (EIB) and European Bank for Reconstruction and Development (EBRD) declared their readiness to back the Nabucco pipeline financially. Also at the summit, the European Commission directed that 250 million euros (US$351 million) of its anti-crisis Economic Recovery Plan should be channeled into the Nabucco pipeline through the EIB. The European Council ratified this decision two months later, overcoming strong contrary representations by Germany, which favors instead its own bilateral cooperation with Russia in the projected North Stream pipeline (see Europe keeps Nabucco on life-support, 27 March 2009).
Indeed, a consortium such as Nabucco's, having multiple members, naturally finds it hard to act on a financing strategy. This is one of the reasons why clarifying the legal framework and applicable tax law in Turkey has been a sine qua non. These were major sticking points between Turkey and the EU that were overcome in the breakthrough Prague summit just two months ago. According to reports in Turkish media, Turkey's insistence on taking 15% of the Nabucco gas at concessionary rates for internal consumption has been finessed by the agreement of the Nabucco consortium's partners to return to Turkey between 50% and 60% of their share of the project's tax revenues (worth up to $650 million).
This makes sense prima facie, as one of the last stumbling blocks for the BTC was overcome by an analogous gesture by Azerbaijan's then-president Heydar Aliev, who magnanimously offered in March 2000 to give over to Georgia all of Azerbaijan's pipeline tariffs.
Finally, it is said in criticism that there is no map of how the Nabucco pipeline would run. Given this, it is hardly surprising that financing is not agreed, since cost estimates until now have been approximate and not linked to particular agreed construction tasks. But a map is not to be expected yet. The analogy of building a house is instructive.
There are three stages to both building a house and building a pipeline. The first is to survey the land, draw some sketches, and estimate approximate expenditures. This stage is largely complete and is the basis for numbers cited in the press as to length, costs and throughput.
The second stage is detailed engineering. In the analogy to a house, it is like bringing in the architects and deciding how and where to install the power lines, drainage and so forth. If Nabucco reaches this stage, then it is a very fair bet that it will in fact be built: for this stage is reached only if the financiers really think the house (or pipeline) is going to happen.
It is that second stage that the multi-party transit agreement is designed to help prepare. Indeed, at least preliminary work on the crucial second stage seems to have been under way for some time, as the authoritative industry publication Upstream reported in January 2008 that the pipeline partners had named the UK-based consultancy Penspen to "assist [them] in setting up and managing local front-end engineering and design contractors" in all five countries (Austria, Bulgaria, Hungary, Romania, and Turkey), including the preparation of packages for tendering subsequent stages up to and probably including the actual construction. As in the house-building analogy, the third stage of a pipeline project then becomes the actual construction.
It is worth concluding on the point that Nabucco received an additional boost in Bulgaria this month that was not much noticed. This was the victory of political party Citizens for European Development of Bulgaria (GERB in Bulgarian, usually qualified in the foreign press as "center-right") in the July 5 parliamentary elections, where it gained nearly half the seats (116 out of 240) and named Boyko Borisov as its candidate for prime minister.
This development is significant because Bulgaria is the landfall country for the South Stream natural gas pipeline project touted by Russia as a complement to the aforementioned North Stream. Despite disclaimers on all sides, South Stream is intended as a Nabucco-breaker, just as the Russo-Turkish Blue Stream natural gas pipeline in the late 1990s was intended to break momentum for the Trans-Caspian Gas Pipeline from Turkmenistan to Azerbaijan and the natural gas South Caucasus Pipeline (also called BTE for Baku-Tbilisi-Erzurum), which now takes gas only from the Shah Deniz's first stage into Turkey.
A decision by Borisov's government to remove Bulgaria from participation in the South Stream project could kill it. At a minimum, the South Stream project has now entered a limbo of indefinite duration, and it has done so just at a time when Nabucco is looking more real than ever.
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First published in Asia Times Online, 16 July 2009.