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Azerbaijan and Turkey clash over energy

In all the debate and speculation over the various pipelines planned for the Caspian-South Caucasus corridor and adjacent regions (Nabucco, South Stream, White Stream, and Trans-Caspian Gas Pipelines in addition to various oil pipeline projects), the troubled state of energy relations between Azerbaijan and Turkey has been lost from view, mainly due to their stellar cooperation in the past over the Baku-Tbilisi-Ceyhan oil pipeline and South Caucasus Pipeline for gas in particular.

However, Azerbaijan's frustration with Turkey's inability or unwillingness to address present and future bilateral contract terms has now broken out into the open at the highest level. Azerbaijan's President Ilham Aliev was this week widely quoted in the press as saying publicly, "What state [meaning Azerbaijan] would agree to sell its natural resources for 30% of world market prices, especially under current conditions? This is illogical."

According to the bilateral contract signed in the late 1990s, Azerbaijan's contractual price for selling gas to Turkey from the Shah Deniz deposit is $120 per thousand cubic meters (tcm). This is indeed now roughly one-third of the world market price; and although the contract includes provision for re-negotiation, this has not been successful. Under these terms, Turkey may take up to 6.6 billion cubic meters per year (bcm/y) through the contract's expiration in 2012, when it is scheduled to ramp up from Phase 2 of the Shah Deniz development to 22 bcm/y, under terms still to be negotiated.

However, it is not only a question of price; two other related issues are volumes for export and tariff rates. Aliev continued, "What part of gas to be extracted within Phase 2 of [the] Shah Deniz project and gas being produced or to be produced by the State Oil Company of Azerbaijan will be supplied to the Turkish market? We must define that as well." Thus, as insiders have known for some time, there is still no agreement on volumes of Azeri gas to be sold to Turkey.

Indeed, failure to agree on a new price structure is in some significant degree responsible for repeated postponements in the development of Shah Deniz 2. The development of Shah Deniz Phase 2 has been delayed also partly by Turkey's lack of infrastructure and as well by its declining domestic demand and increased domestic gas price.

It follows that the agreement reached to supply 500 million cubic meters to Russia in 2010 from Shah Deniz 2 was aimed as much at Turkey as at laggard Western interest in promoting the Nabucco pipeline, although the assertions from the Russian side that Russian companies will receive "first refusal" on quantities from further development of Shah Deniz 2 do not appear to be well founded: at least, there are no legally binding documents that oblige Azerbaijan to act in such a manner.

Aliev underlined that his government would continue to seek to reach an agreement with Turkey so that his country's gas could be exported in larger volumes. Adding to the difficulty of reaching agreement is the administrative disorder within Botas, the state pipeline operator. The Turkish government this week relieved Botas's chairman and general manager Saltuk Duzyol of his duties. He had been deputy chairman for over three years before becoming chairman at the end of 2007.

No reason was given, but the move was expected because Duzyol opposed the state policy of ending Botas's monopoly on gas imports and transport by unbundling it and selling contracts to private companies. (Botas's market share is scheduled to decline to 20% under Turkey's energy liberalization law.) Duzyol was also suspected of seeking to expand Botas's activities at the expense of TPAO, the state upstream oil and gas firm.

It remains to be seen whether this will make a difference, insofar as the government in Ankara is beginning to give the impression of trying to play off its different suppliers against one another. This impression first was made when Prime Minister Recep Tayyip Erdogan went to Baku following the Prague summit with the EU on Nabucco, made a spectacular "fraternal" speech to Azerbaijan's parliament, and then proceeded to Sochi where he agreed with Russia's Prime Minister Vladimir Putin on tentative terms for South Stream (formerly Blue Stream II) in return for Russian assistance in construction of the Samsun-Ceyhan ("Trans-Anatolian") oil pipeline.

Following this, the terms of the breakthrough agreement in Prague between Turkey and the European Union that resolved some basic legal and economic questions were called again into question in Ankara; and this, to the great surprise of Erdogan's erstwhile Azerbaijani interlocutors, put the Nabucco pipeline somewhat back into question.

The prospect of gas from Turkmenistan reaching Azerbaijan for westward re-export is not the stumbling block that some observers believe it to be. Earlier this month, after having threatened to seek an undefined form of international arbitration over an offshore territorial demarcation disagreement, Turkmenistan's President Gurbanguly Berdimuhamedov stated that he would prefer a compromise solution. And just as the absence of a comprehensive settlement of the Caspian Sea's legal status has not prevented unilateral and bilateral (eg, cooperative Russian-Kazakhstani) development of existing deposits, so it does not block in principle the construction of an undersea Turkmenistan-Azerbaijan pipeline, which technical studies have long demonstrated to be feasible.

There is speculation that a failure to agree between Azerbaijan and Turkey would be the fatal blow for the Nabucco pipeline. That is not necessary so; but even if it were the case, this would not leave the Russian-sponsored South Stream pipeline as the only alternative. A relatively new pipeline project dubbed White Stream has recently made progress on the feasibility and funding levels.

White Stream would take gas across Azerbaijan and Georgia to the latter's Black Sea ports and then across the Black Sea either to Ukraine, from where it would enter gas networks of the European Union states, or directly to Romania, itself an EU member. Its proponents even argue that concurrent development of White Stream with Nabucco would reinforce one another by offering "security of demand" to gas producers and exporters.

The EU has funded feasibility studies for White Stream in the framework of the Trans-European Networks (TEN) program. After sub-sea transit from Georgia to Romania, such a study projects that the pipeline would travel overland to Italy along the route of the Pan-European Oil Pipeline. The EU-funded TEN study demonstrated White Stream's feasibility from the standpoint of market, economic, commercial, technical, and legal considerations.

Its first stage calls for only 8 bcm/y and can be developed using gas from Azerbaijan alone. Construction is projected to begin in 2012 with the pipeline entering into service in 2015. In this connection it is worth noting that the May summit in Prague where questions blocking agreement on Nabucco between Turkey and the EU were thought to be resolved was "not a Nabucco summit" according to EU energy commissioner Andris Piebalgs, "but rather a summit focused on the Southern Corridor". The Southern Corridor comprises the Nabucco and White Stream pipelines plus the Italy-Turkey-Greece Interconnector (ITGI), which has already entered into service.

The bilateral Azerbaijani-Turkish energy relations are embedded within a multilateral network stretching from Turkmenistan to Austria. In the post-Cold War world, it is an error to forget this and to focus instead on the bilateralism. Consequently, and indeed regardless of the outcome of the talks between Turkey and Azerbaijan, we will likely hear more about White Stream in the future.

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URL:  http://www.robertcutler.org/blog/2009/10/azerbaijan_and_turkey_clash_ov.html
First published in Asia Times Online, 23 October 2009.

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