Weekend Economists Down Under May 23-26, 2014

[Demeter]

19. Is the Russia-China Gas Deal for Real—or Just Fumes?

IS THE WEST WHISTLING PAST ITS OWN GRAVEYARD? LIKE SCROOGE AND THE THIRD SPIRIT?

http://www.businessweek.com/articles/2014-05-21/is-the-russia-china-gas-deal-for-real-or-just-fumes



After negotiating for 15 years, China and Russia appear to have finally struck a deal to get into the natural gas business together and build a pipeline linking the two countries. Under the terms of the 30-year pact, China will secure the natural gas it needs to fuel its economy (and help clean its air), while Russia gets to diversify away from its testy relationship with Europe. Chances are that Russia won’t ever have to worry about being sanctioned by China.

As it has been since the late 1990s, the major sticking point in the talks was the price China would pay to buy Russia’s gas. China was always willing to invest upfront cash in return for a cheaper price. Russia was always happy to take that cash, but it never wanted to give China too great a deal, lest its other customers expect similar prices. In the end, it looks as though China will commit as much as $25 billion in advance payments to help Russia build the pipeline and develop its gas fields in Siberia.

What about that price? In announcing the deal, Russia’s de facto gas czar, Alexey Miller, chief executive officer of the state-controlled gas giant Gazprom (GAZP:RM), declined to say exactly what Russia would charge China, referring to the final price as a “commercial secret.” Still, in laying out details of the deal, he offered some clues. Miller says that under the agreement, Gazprom will annually sell 38 billion cubic meters of natural gas to China for 30 years, for a total value of $400 billion. According to a back-of-the-envelope calculation offered by Pavel Molchanov, senior energy analyst at Raymond James, that works out to roughly $10 per thousand cubic feet. This is roughly the price Russia charges its customers in Central Europe. “That is not a crazy number at all,” says Molchanov.

Moreover, Russia’s president, Vladimir Putin, said that the price China pays will be linked to the price of oil, meaning that if the price of Brent crude rises 2 percent, so will the price of the gas Russia sells to China. So how can they know the value of the deal over 30 years when we can hardly forecast what the price of oil will be a month from now?

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