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Kashagan should not become a symbol for Asian oil

Central Asia’s oil and gas are crucial to global energy balances, but the region is facing some lean years

Discovered in 2000, Kashagan confirmed Central Asia’s arrival as the energy world’s new powerhouse. With recoverable reserves of 13 billion barrels, the field was a true giant, scotching notions that the oil industry could no longer uncover the resources needed to keep adequate global supply ticking ever upwards. The firms that arrived in Kazakhstan to extract the crude promised swift development. Oil would flow from 2005 and the field would pump 1.5 million barrels a day (b/d).

Petroleum Economist’s readers will be familiar with the failures that followed. Kashagan only started producing last year. Within a month it was shut. The future profitability of the field, being developed through a production-sharing agreement, has shrunk with each cost re-assessment. If full development were ever to happen – and many doubt it will – the price could be more than $130bn. It has been a humiliating mess, especially for Eni, Kashagan’s unlikely initial operator.

Kashagan is Central Asia’s most notorious project. But it should not become a symbol for the region’s upstream.

The sheer wealth of oil and gas reserves make Central Asia crucial to global energy balances. The International Energy Agency (IEA) believes that shortly after 2025, the region will export 4.6m b/d, compared with about 2.3m b/d last year. Gas exports will reach more than 310bn cubic metres a year (cm/y) by 2035, compared with around 64bn cm in 2012.

This wealth of potential is why, for years, analysts believed the region would emerge as a new rival to Middle Eastern oil, and the geopolitical locus of a new great game pitting West against East in the battle for influence and energy. This competition flared for a while, but the endgame is near.

Many Western companies are present in Central Asia’s upstream, but for Western interests, the 1m b/d Baku-Tbilisi-Ceyhan pipeline, which came on stream in 2005, looks like the high-water mark. European Union efforts to tap Central Asia’s gas resources, in an effort to break away from dependence on Russia, have floundered.

The original Nabucco pipeline project would have brought 30bn cm/y of Caspian gas into the heart of Europe. Instead, a host of smaller infrastructure projects with far less impact on Europe’s import balance is about the most the bloc can now expect.

Russian control

Russia was an obstacle for European energy ambitions in Central Asia, partly because of its long-standing relationship with countries that had once been under Moscow’s control, but mainly because it controlled the existing infrastructure to ship the region’s energy to markets.

But its domination of the region has waned, too. Turkmenistan no longer depends on Gazprom to market all its gas to foreigners. Kazakhstan still ships much of its oil through Russian pipes. But even Astana, long Moscow’s closest ally in Central Asia, is growing wary of the Kremlin’s influence, mindful not to invite the kind of Russian meddling in its country that has brought violence to eastern Ukraine.

China’s power in the region’s energy sector, by contrast, grows ever stronger. Later in 2015, after another section of its export pipeline network is on stream, Turkmenistan will ship 55bn cm/y to China, meeting almost a third of its demand. That gas trade will reach 65bn cm/y by 2020. Turkmenistan is now a direct rival of Gazprom, which belatedly signed its own export agreement with Beijing earlier this year. It reaffirms, too, Central Asia’s potential as a force in world energy supply.

 Yet as our survey of Central Asia this month shows, Central Asia, like Kashagan, still faces many problems that could hinder its potential. In Kazakhstan, red-tape, opaque rules, high operating costs and policies favouring large investors or designed to bolster local firms have all deterred the foreign investors, especially smaller ones, that could have helped regenerate activity in the upstream. Since Kashagan, Kazakhstan has seen just five new major oil discoveries. Local analysts say the country’s reserves base could begin to stagnate.

Uzbekistan is in prime location to capitalise on the region’s energy trade with China, thanks to the gas export pipelines that pass through its territory. But one of the world’s most secretive and repressive countries is hardly making the most of this, or drawing in the kind of investors that could replace retreating Russian firms.

Colossal inefficiencies in its domestic gas consumption, which is heavily subsidised, mean the region’s second biggest producer has nothing like the presence in foreign markets that it could have. Turkmenistan’s plentiful gas reserves laid the foundations for its energy sector. But onerous fiscal terms have hurt its efforts to lure more investors, boost oil production and realise a measure of diversification.

Gas exports to Europe are mooted periodically, with a proposal to build a dedicated pipeline beneath the Caspian to Azerbaijan for connection through Turkey into the southern corridor. But those prospects remain distant.

China connection

As long as Iran remains under Western sanctions, increased exports of Turkmen energy through its territory remain difficult, too. It all leaves Turkmenistan heavily reliant on China’s market. As China’s import options widen, it will be in a position to seek cheaper gas from Turkmenistan.

Azerbaijan’s oil sector may already have seen its best days. Production is falling and no major new projects are under way to reverse the trend. So the country is now trying to ensure gas output from Shah Deniz’s second phase takes up the revenue slack. But the project’s high costs have already pushed away two partners. Some investors talk of great prospects still lurking in the Caspian, but rig availability is poor and project lead times are long. Europe will become an increasingly important market for the country’s gas, but not quickly.

The impact of poor investment terms on the upstream is plain. After a spurt in the middle of the first decade of the century, output growth in the region has begun to flatten. Wider economic problems are building, too.

Across the region’s oil exporters, GDP growth in the first decade of the century bustled along at 9.5% a year. But no longer. The IMF says it will reach 5.6% for 2014 and 5.7% next year. Spillovers from the weakening of Russian economy are a major threat. Risks to the region, says the fund, “are to the downside”, not least thanks to rising break-even oil prices needed by producers to keep their budgets afloat.

After years of rising energy output and economic growth, some lean years are approaching for Central Asia. Its rulers must ensure that the energy potential of their countries is not squandered or delayed. The world’s energy consumers will hope that Kashagan was just a costly blip, not a symbol of wider problems in a region that remains crucial to global supply. 

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