Sunday, April 9, 2017

Gas pipelines: Politics and reality - IN CYPRUS / CYPRUS WEEKLY

April 9, 2017
Charles Ellinas

With the joint declaration of the Energy Ministers of Israel, Cyprus, Greece and Italy and European Commissioner Miguel Arias Cañete at a meeting in Tel Aviv on Monday, the issue of gas pipelines is back in the limelight.

This was the first such meeting involving these five parties. The focus was the unveiling of the plans for the natural gas pipeline from the Eastern Mediterranean to Europe (the East Med gas pipeline).

This is being promoted by Israel, which at the same time is pursuing another pipeline for gas exports to Turkey and from there to Europe. Israel’s Energy Minister Yuval Steinitz has confirmed that he is keen for both projects to be constructed.

I have covered these pipeline projects before, but given the excitement created by this meeting, it is perhaps worth delving into the subject again and separating between what is politics and what is reality.

East Med gas pipeline
This is considered to be a strategic project for exporting East Med gas. The aim is to create a direct gas export route from the region to Europe by 2025.

A preliminary engineering study was recently completed by IGI-Poseidon, a joint-venture between Italy’s Edison and Greece’s gas company DEPA. The study was funded by the EU as a ‘project of common interest’. The study has claimed that the proposed pipeline is both technically feasible and commercially viable.

The pipeline will be 1,970 kilometres long, but the challenging part will be the 730 km from Cyprus to Crete, as it will have to go through very uneven terrain subject to seismic activity. Moreover, at a water-depth of 3,000 metres, it makes any need for repairs difficult. Deep water limits the pipeline diameter to 26 inches, which allows it to transport about 14 billion cubic metres (bcm) per year.

Technically the East Med pipeline will be stretching the limits for subsea pipelines at this water-depth. However, the study concluded that it is technically feasible and there are no strong reasons to dispute this.

An additional challenge could be that it passes through an area, west of Cyprus, of undeclared and disputed Exclusive Economic Zones (EEZs), but ultimately this may not be a show-stopper.

The study estimated the cost of the East Med pipeline to be about $5.4 billion to reach Greece and $6.4bn to reach Italy, which is considered by other experts to be highly optimistic. Based on this, it concludes that the pipeline is commercially viable, but so far it has not clarified what is meant by that.

In fact the pipeline can become commercially viable only if the price of gas in Europe exceeds $8 per million British thermal units (mmBTU). Given that, last year, the average price was $4.7/mmBTU and with no expectation that it will rise above $6/mmBTU for a long time, this looks challenging.

Israel to Turkey gas pipeline

The latest discussions on the Israel to Turkey gas pipeline restarted in October, following the re-establishment of diplomatic relations. After a flurry of activities, the energy ministers of Israel and Turkey announced that they expect to sign a framework agreement during the summer, enabling the construction of the pipeline.

It would be about 540 km long, carry 8-10 bcm/year gas and would cost about $3bn.

Securing such an export would enable Phase 1B of the Leviathan development to proceed, flowing planned completion of Phase 1A by 2019.

But an agreement does not mean that the pipeline will be constructed. First, there is scepticism that Turkey will need additional gas.

Turkey has changed its energy mix strategy, with natural gas demand revised downwards through increasing use of coal, hydro, renewables, nuclear energy and imports of liquefied natural gas (LNG), and it is already on the way to achieving this. In fact, its gas imports have been declining for the past three years.

Turkish Stream from Russia to Turkey is back on track and, with a second string now agreed to be built, Turkey will have access to plentiful cheap gas. Last year’s average price of Russian gas to Turkey was about $5/mmBTU, a price which Israeli gas cannot match. On top of this, Gazprom made it clear that it is prepared to take action to support this price to stave off competition.

In addition, the Trans-Anatolian Pipeline (TANAP) from Azerbaijan to Turkey is now under construction, and is expected to deliver 6 bcm/y gas to Turkey by 2019.

Other than for political reasons, Turkey’s need for East Med gas may no longer be an urgent priority, and more so given price challenges. Private companies will not take such a risk.

Gas from Israel to Turkey and then Europe faces similar commercial challenges to the East Med gas pipeline: gas prices in Europe need to exceed $8/mmBTU to make this commercially viable.

Why is Israel pursuing these projects?
There are a number of reasons, the foremost being that, despite years of effort, Israel still has no export routes secured for its gas. Phase 1A of Leviathan is destined for the domestic market and Jordan, but follow-up phases require export routes. This is important to the project and the Israeli government, having made it the central plank of its drive to get the ‘gas framework deal’ in place early last year.

Without an export deal, apart from what can be consumed by the domestic market, the remainder of Leviathan’s gas runs the risk of remaining stranded. Another reason is that, without credible export routes, Israel’s existing and future offshore licensing rounds will find it difficult to attract major international oil and gas companies.

This would stifle any expectations that Israel can become a serious international oil and gas player.

With its international energy aspirations clipped, Israel may not derive the political benefits this would bring, especially from Europe.

Politics and reality
A paradox is that the East Med pipeline is being pursued vigorously by Israel and, although Cyprus is supporting it, it considers that the key export route for Aphrodite gas is to or through Egypt. However, this looks equally unlikely.

The politics: despite appearances to the contrary, countries, especially in Europe, do not construct pipelines, or buy or sell gas. The role of governments is to put in place frameworks and agreements, and, if need be, regulations that facilitate this. In the East Med, politics give a different impression: political agreements are often considered to be as good as constructing the pipelines!

The EU is supporting the East Med pipeline because it could provide another, alternative, route for gas to Europe, provided it is cheap. It is also supporting it because member states Greece, Cyprus and Italy are behind it. And having given up blocking the Nord Stream 2 pipeline from Russian to Europe, it needs to be seen to be supporting alternatives.

The reality: even though the EU may provide limited support towards the cost of constructing the pipeline, it will not fund it. The lead must be taken by companies, such as IGI-Poseidon. This will not happen unless gas sales agreements can be secured with acceptable profit margins and within the prevailing European gas market, i.e. at prices below $6/mmBTU.

This is the key reason why, so far, such gas pipeline projects remain a talking exercise and are being met with scepticism by the oil and gas industry. With gas prices expected to remain low in the longer term, the future for East Med gas exports may be through integrated projects and LNG, and even then it will be challenging.

Dr. Charles Ellinas is a non-resident Senior Fellow, Eurasian Energy Futures Intiative, Atlantic Council