Egypt's Zohr Gas Discovery: Opportunities and Challenges - CHAPTER 7: GLOBAL ENERGY DEBATES AND THE EASTERN MEDITERRANEAN

Joint Publication by: PRIO Cyprus Centre, Friedrich Ebert Stiftung, Atlantic Council
Adel Abdel Ghafar

In August 2015, the Egyptian government received some good news. Italy’s Eni announced that it has discovered the largest ever offshore natural gas field in the Mediterranean off the Egyptian coast.2 Dubbed a ‘supergiant’ field, Eni suggested that the Zohr project would be able to meet Egypt’s own natural gas demands for decades to come. This was welcome news for the government of Abdel-Fattah el-Sisi as it was entering its third year and has resonated locally and regionally. Once the field comes online it will go a long way toward satisfying local demand, thus allowing Egypt to spend significantly less on importing energy. The continued turbulent transition in Egypt should encourage the government to be prudent and use the proceeds from the field to improve people’s livelihoods and invest in infrastructure, health and education.


From Exporting to Importing: An Unpleasant Journey 

In 2003, after the discovery of sizable reserves and the establishment of pipelines and liquefied natural gas (LNG) facilities, Egypt began exporting gas to Jordan, Israel, and Syria. In addition, the government had ambitious plans to export to Lebanon and Turkey. This coincided with an increased thirst for gas locally. According to a report by the German Marshal Fund, between 2000 and 2012 overall energy consumption in Egypt rose by 5.6 percent, but demand for gas grew by 8.7 percent.3 By 2012, gas was providing more than 50 percent of the total energy needs of the country compared with 35 percent in 2000. Even though production had risen, nonetheless it was inevitable that in the long run demand would outstrip supply as gas was being used for industrial, commercial, and residential purposes at subsidized prices, as well as being exported. 

By 2015, the party was over. Due to this exponentially increasing local demand for energy, Egypt was no longer a net exporter of gas. After initial denials by the government, Egypt began importing gas from Israel via a US company early in the year, causing local controversy as Egypt had until then been exporting to Israel for more than a decade.4 Adding insult to injury, Egypt imported Israeli gas at global prices despite having exported theirs to Israel at much lower prices during the previous decade. 

For Egyptian energy policy makers, importing from Israel made sense as some of the existing infrastructure used for gas exports could now be used to import, despite the damage inflicted by militant groups operating in the Sinai who blow up pipelines on a regular basis. In addition to imports from Israel, in 2015 Egypt signed a memorandum of understanding (MoU) with the Republic of Cyprus for a feasibility study to assess an underwater pipeline for exporting gas to Egypt.5 The initial findings of the report are being assessed by the government to determine whether to proceed. Overall, Egyptian policy makers had been preparing for the eventual decline of local supply of gas. 

Enter the Zohr 

While it will take years to produce gas from the field commercially, this is nonetheless an undeniably good story for the Egyptian government as it tries to shore up its economic credentials. In a country where acute energy shortages peak in the summer months, energy supply is high on the agenda. Before ex-President Morsi was overthrown in 2013, he was being blamed for a series of power outages that had swept the country, leaving the population increasingly frustrated. The Egyptian government understands the importance of providing cheap energy for stability. Even the army has gotten involved and is currently building a series of power stations to support the ever-strained electrical supply.6 

The new discovery has alarmed Israeli policy makers. The Israeli energy minister Yuval Steinitz said that the Egyptian discovery is a painful reminder that while Israel sleepwalks and dallies with the final approval for the gas road map, and delays future prospecting, the world is changing in front of us, including ramifications for [Israeli] export options.7 Indeed, despite sizable fields discovered in Israeli waters, the deal between Noble Energy and the Delek group have been facing regulatory issues in Israel.8 The news of the discovery led to a heavy sell-off of gas producers on the Israeli stock exchange.9 

It is likely that the new discovery in Egyptian waters will provide impetus for Israel to hasten its production, as once the Zohr field comes online, it will have direct ramifications for Israeli gas exports not only to Egypt, but regionally as well, including any potential gas deals with Cyprus and Turkey. 

Now What? 

The key issue now is how fast this field can become operational, and at what cost. The govern - ment has yet to publish a detailed costing of the project, including who will bear the investment cost, and more importantly, how exactly the revenues from the field will be distributed. It remains to be seen if it will become a game-changer as Eni CEO Claudio Descalzi suggested.10 

In addition to these concerns, LNG prices have been dropping due to a variety of factors globally. First, Japan, which had become one of the world’s largest LNG consumers after its Fukushima disaster, recently began restarting its nuclear reactors, thereby reducing demand.11 Second, there is also increased supply capacity coming online around the world that is likely to put further pressure on prices.12 As prices become lower, the prospective returns from the new discovery would already be under pressure. 

Finally, with the Iranian nuclear deal being completed, Iran will be likely to increase investment in its LNG capabilities to become a larger regional gas producer. India has already signalled its interest in reviving a decade-old $22 billion LNG deal with Iran that was on hold due to the sanctions.13 Descalzi was bullish and shrugged off these concerns, arguing that the field is another positive response to this kind of low price environment.14 

Exporting aside, if this discovery is able to satisfy local demand for gas for some decades to come, then this is undeniably good news for Egypt as it will free up much needed funds for other sectors of the economy, such as health and education. Overall, August has been a good month for Egypt’s energy prospects. In addition to the Zohr gas discovery, President Sisi during a visit to Moscow signed an MoU to build a Russian nuclear reactor as Cairo continues to deepen its relationship with Moscow.15 

Neither the nuclear reactor nor the gas field will become operational anytime soon. Nonetheless they both provide a positive story for foreign investors who are wary of investing in Egypt after five years of domestic turmoil. Additionally, earlier in 2015 Moody’s upgraded Egypt’s credit rating to B3 with a stable outlook, which should also help entice existing and prospective investors.16 

Domestic Challenges 

Despite some positive news, five years after the so-called Arab Spring, Egypt continues to face a number of economic and security challenges. On the economic front, and despite mega projects such as the widening of the Suez Canal and the announcement of a new capital, growth continues to be sluggish. Foreign currency reserves continue to dwindle, and the Egyptian pound has fell to a historical low, reaching 10 EGP to the USD on the black market. This has forced the government to further devalue the pound as it attempts to eliminate the black-market for currency.17 

Many of the promised FDI investments that occurred in the glitzy 2015 Sharm el Shiekh conference has failed to materialize. In addition, many factories have been closed since 2011, decreasing Egyptian exports who were a key source of foreign currency. Finally, the downing of the Russian jet over Sinai and the continued worsening of the security situation has affected tourism, another key source of foreign currency. 

Tourism lies at the intersection of economic and security challenges. Before 2011, Egypt was receiving more than 15 million tourists per annum who were generating billions in foreign currency. Fast forward to 2016, many nations around the world have travel security warnings to Egypt, which further affected the number of tourist arrivals. The security clampdown was not only directed at militants, but also at civil society activists in a resurgent authoritarian push that is eerily reminiscent of the Mubarak era, if not worse. 

This authoritarian push has not only affected domestic politics, but has also affected Egypt’s external relations. On January 25th Giulio Regeni, an Italian researcher, disappeared in Cairo. Mr. Regini, a Cambridge PhD student, was living in Egypt and conducting research on independent unions in Egypt. The following week, while a high-profile Italian trade delegation – including representatives from Fiat Chrysler, Saipem, Ferrovie Dello Stato – were visiting Cairo when Mr Regeni’s body was found.18 Italian officials cut their trip short, threat - ening Egyptian Italian commercial ties. Since then, Mr. Regini’s family and their supporters have been putting increasing pressure on the Italian government to take a harder stance on the Egyptian government, whose security service is the main suspect. Italian companies operating in Egypt, including Eni, would like to continue their business dealings with Egypt, however the unanswered questions around Mr. Regini’s murder is likely to impact relations in the short term. 

Moving Forward: The Demise of the Authoritarian Bargain?
The Zohr gas discovery is a positive story amongst a sea of gloom for Egypt. While the discovery shows great promise, it has yet to improve people’s lives. The government should now spend less time talking up its prospects and performance, and focus instead on actually improving people’s livelihoods. The proceeds from this new field need to be invested wisely in key areas, not squandered. The expectations of everyday Egyptians continue to rise with each positive news story, so the government must now produce some tangible results or it will risk further upheaval down the line as ever-increasing expectations remain unmet. 

The essence of the authoritarian bargain is that the ruler provides security, stability and economic opportunity, in return for the acquiescence of the population.19 So far, Sisi has been able to provide neither security nor stability and economy opportunity, and thus in the coming years this Faustian bargain is likely to come under increasing strain.

Footnotes:

1. This piece is based on my previously published article entitled Egypt’s New Gas Discovery: Opportunities and Challenges. (2015, September 10). Brookings Doha Center. 
2. Italy’s Eni Discovers Huge Gas Filed off the Egyptian Coast. (2015, August 30). BBC. Retrieved from: http://www.bbc.com/news/world-middle-east-34102656 
3. Tsafos, N. (2015, July). Egypt: A Market For Natural Gas from Cyprus and Israel?. German Marshal Fund. Retrieved from: http://www.gmfus.org/publications/egypt-market-natural-gas-cyprus-and-israel 
4. Carlstrom, G. (2014, May 8). Egypt and Israel to Reach Another Gas Deal. Al Jazeera English. Retrieved from: http://www.aljazeera.com/news/middleeast/2014/05/egypt-israel-reach-another-gas-deal-201458823585752.html; Masr, M. (2015, March 18). Egypt to Import Gas from Israel via EMG Pipeline. Retrieved from: http://www.madamasr.com/news/egypt-import-gas-israel-emg-pipeline; and Noble Energy Team in Egypt for Talks on Importing Gas. (2015, February 1). Reuters. Retrieved from: http://www.reuters.com/article/egypt-energy-israel-idUSL6N0VB0RF20150201 
5. Egypt Completes Feasibility Study into Cyprus Gas Imports. (2015, July 31). Eastern Mediterranean Oil and Gas. Retrieved from: http://www.cyprusgasnews.com/archives/8654/egypt-completes-feasibility-study-into-cyprus-gas-imports/ 
6. Egypt Army Clinches $700 M Deal for Power Stations. (2014, December 24). Star Africa. Retrieved from: http://en.starafrica.com/news/egypt-army-clinches-700m-deal-for-power-stations.html 
7. Steinitz: Egypt Gas Find is a Wake Up Call For Israel. (2015, August 30). Times of Israel. Retrieved from: http://www.timesofisrael.com/steinitz-egypt-gas-find-is-wake-up-call-for-israel/ 
8. Supergiant Gas Field Discovered of the Coast of Egypt. (2015, August 30). Aljazeera. Retrieved from: http://www.aljazeera.com/news/2015/08/gas-field-discovered-coast-egypt-150830172919161.html 
9. Solomon, S. and Coppola, G. (2015, September 1). Egypt Gas Find Leads to Israel Selloff. Bloomberg Business Week. Retrieved from: http://www.businessweekme.com/Bloomberg/newsmid/190/newsid/1023/Egypt-Gas-Find-Leads-toIsrael-Selloff 
10. Graeber, D. J. (2015, August 31). Eni expects to change Egyptian gas dynamics. UPI. Retrieved from: http://www.upi.com/Business_News/Energy-Industry/2015/08/31/Eni-expects-to-change-Egyptian-gasdynamics/5821441013572/ 
11. Stapczynski, S. (2015, August 14). Japan Nuclear Restarts Seen as Long Term Drag on LNG Prices. Bloomberg. Retrieved from: http://www.bloomberg.com/news/articles/2015-08-14/japan-s-nuclear-restarts-seen-as-long-term-drag-on-lng-prices 
12. Asian LNG Price Faces Steep Fall. (31 August 2015). CNBC. Retrieved from: http://www.cnbc.com/2015/08/31/asian-lng-price-to-plunge-as-local-demand-wanes-supply-jumps.html 
13. Gail in Talks with Iran to Revive decade Old $22 Billion LNG Deal. (2015, August 24). India Times. Retrieved from: http://articles.economictimes.indiatimes.com/2015-08-24/news/65808642_1_gail-india-ltd-lng-supply-iranian-gasexport-company 
14. Kharpal, A. (2015, August 31). Eni Supergiant Gasfield a Gamchanger: CEO. CNBC. Retrieved from: http://www.cnbc.com/2015/08/30/eni-makes-huge-natural-gas-deposit-find-off-egypts-coast.html 
15. Dubovikova, M. (2015, August 27). Russia-Egypt Ties on the Rise. Al Arabiya. Retrieved from: http://english.alarabiya.net/en/views/news/middle-east/2015/08/27/From-Yemen-to-Syria-counter-terrorism-alonenot-the-answer.html
16. Parasie, N. (2015, April 7). Egypt Reforms Bear Fruit as Moody’s Upgrades Credit Rating. Wall Street Journal. Retrieved from: http://blogs.wsj.com/frontiers/2015/04/07/egypts-reforms-bear-fruit-as-moodys-upgrades-credit-rating/ 
17. Feteha, A. (2016, March 14). Egypt Lets Pound Slide Most in 13 Years in Step Towards Flotation. Bloomberg. Retrieved from: http://www.bloomberg.com/news/articles/2016-03-14/egypt-s-central-bank-said-to-devalue-poundby-almost-13.
18. Politi, J. (2016, February 8). Brutal Murder Threatens Relations Between Egypt and Italy. Financial Times. Retrieved from: http://www.ft.com/cms/s/0/e5f5a4e4-ce7b-11e5-831d-09f7778e7377.html#axzz44kcrm6ei 
19. See Desai, R., Olofsgard, A. & Yousef. T. (2009). The Logic of Authoritarian Bargains. Economics and Politics 21, no. 1 (March):93-125.

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