Arms, Energy and Commerce in Sino-Russian Relations

Publication: China Brief Volume: 7 Issue: 16

Having moved beyond their antagonistic Cold War relationship, Russia and China are now seeking to develop a strategic partnership. In addition to Russia’s substantial arms sales to China and the joint military exercises conducted under the umbrella of the Shanghai Cooperation Organization (SCO), the two countries have also sought to cement their bilateral relationship through energy ties. Indeed, China’s rapidly growing economy and its increasing demands for energy, combined with Russia’s massive energy resources have proven to be a complimentary match. Yet, despite optimistic official pronouncements by the leaders of both countries, thorny issues remain, particularly in the area of bilateral commerce.

Arms Sales and Military Exercises

In recent weeks, a significant number of Chinese soldiers were transported through Russia for the SCO’s upcoming military exercises, code-named “Peace Mission 2007.” The drill, to be held from August 9-17, involves some 4,000 troops, mainly Russian and Chinese, in Chebarkul, Chelyabinsk region. The Kremlin has made little secret that it views the war games as a demonstration of multilateral solidarity, with anti-Western overtones. In June 2007, the SCO defense ministers met in Bishkek to discuss the drill. At the meeting, Russia’s Defense Minister Anatoly Serdyukov criticized the U.S. missile defense plans for Eastern Europe (RIA Novosti, June 27). In an apparent reference to the perceived unilateralism of the United States, he reportedly claimed that some nations used the war on terror and non-proliferation efforts in their own interests, thus undermining the interests of other countries.

These exercises are part of a second series of major joint exercises, with the first being the eight-day maneuvers in August 2005, code-named “Peace Mission 2005,” which involved some 10,000 troops in east China’s Shandong Peninsula. Repeated displays of Russian and Chinese combined military power were understood to indicate the determination by both Moscow and Beijing to jointly project their clout in Central Asia. Incidentally, the SCO could have marked the “Peace Mission 2007” with even more anti-Western overtones. In 2006, Iran was understood to be interested in participating in the war games under its observer status in the SCO. The June 2006 SCO summit in Shanghai, however, made it clear that membership status was not going to be extended to Iran any time soon. Subsequently, only the militaries from the SCO member-states were invited to Chebarkul in August 2007.

The foundation of the Sino-Russian security relationship, however, rested not as much on the joint military drills, but upon the extensive arms sales between the two countries. Over the past decade, China has been a top importer of Russian-made military hardware, though beginning earlier this year, Russian media outlets have been speculating that Russian arms exports to China, estimated at some $1.5 billion in 2006, were slowing down. Chinese officials were quick to counter these claims. On July 27, Chinese ambassador to Moscow Liu Guchang announced in Chelyabinsk that bilateral military cooperation remained “very successful.” In the meantime, Moscow and Beijing have repeatedly pledged to cement their partnership. During his March 26-28 state visit to Russia, Chinese President Hu Jintao hailed what he described as the bilateral “strategic cooperation” and presided over a ceremony in the Kremlin to open the “Year of China in Russia” (Xinhua, March 27).

Energy Partners?

China’s import of Russian energy has likewise been a key element in the bilateral relationship, as reflected by the numerous deals that have been struck in recent years. In March, China and Russia signed a joint statement, pledging to cooperate on a variety of issues. In their declaration, Russia and China vowed to boost cooperation in the oil, gas and power sectors in order to consolidate “the comprehensive and long-term strategic collaborative relations in energy and resources” (Xinhua, March 27). Russian state-run oil giant Rosneft and China’s Sinopec, however, reportedly postponed signing a $1 billion contract to increase crude oil supplies to China.

In November 2006, Rosneft and Sinopec, a subsidiary of the China National Petroleum Corporation (CNPC), signed an agreement on strategic cooperation. According to Rosneft, joint projects with Sinopec in Russia and some third countries could eventually total $3.5 billion [1].

In July 2005, Rosneft and Sinopec agreed to launch a joint venture to explore the Veninsky deposit, part of the Sakhalin-3 project. In February 2007, Rosneft and Sinopec reiterated their pledges to jointly develop the Veninsky bloc at Sakhalin-3, as well as the OAO Udmurtneft and Adaisky bloc in Kazakhstan. Sinopec reportedly offered to set up a joint refinery venture in Northern China (Interfax, February 7).

In addition, Rosneft, CNPC and the State Development Bank of China have also signed a $6 billion contract, involving the transfer of 50 million tons of crude oil to China. In October 2006, Rosneft and CNPC agreed to set up Vostok Energy, a joint venture company, which planned to produce 10 million tons of crude oil a year by 2009-2010 in Eastern Siberia and Russia’s Far East. Rosneft has a 51 percent stake in the joint venture, while CNPC holds the remaining 49 percent interest in Vostok Energy (Interfax, October 17, 2006).

The Kremlin awarded the joint venture with lucrative concessions. On July 31, Vostok Energy placed winning bids to develop two oil and gas deposits in the Irkutsk region (RIA Novosti, July 31). Vostok Energy paid 400 million rubles for a license to develop the Western-Chonsk deposit and 780 million rubles for the Verkhneichersky deposit. On August 1, Rosneft stated that Vostok Energy was interested in a similar auction for licenses to develop the Vakunai and Ignyalin deposits in the Irkutsk region, due in September.

Within Moscow’s energy policy, China is clearly a priority, as evidenced by the building of a $12 billion pipeline from East Siberia to the Pacific to pump up to 80 million tons to China and Japan. Furthermore, Russia rushed to build the Eastern Siberia-Pacific Ocean (ESPO) pipeline, despite the uncertainty regarding whether the region could pump enough crude oil to fill it. Russia’s pipeline monopoly Transneft pledged to build the 2,694-kilometer pipeline by the end of 2008 (Interfax, July 12). Russian government officials conceded, however, that investments in the ESPO would take 18-20 years to be recuperated.

Russian energy officials sought to reassure their Chinese counterparts that Russia was a reliable energy supplier. Indeed, Russia fulfilled its commitments and supplied 10 million tons of oil to China by rail, Industry and Energy Minister Viktor Khristenko announced in Beijing on July 10 (Interfax, July 9-10). Yet, he seemed reluctant to mention that Russia had previously planned—but failed—to increase its rail-based oil shipments to China up to 15 millions tons in 2006.

Russian officials were also keen to counter questions about the economic viability of the ESPO. The first stage of the ESPO would “undoubtedly” be filled with 30 million tons a year, because Russian oil companies had already pledged so supply more crude oil for the pipeline, Khristenko said in Beijing. If an offshoot to China is built from the ESPO, Russia would supply 15 millions tons/year at the first stage and up to 30 million tons/year eventually, Khristenko said in Beijing on July 10 (RIA Novosti, July 10).

Meanwhile, despite optimistic official pronouncements, indications of disagreements have begun to appear. Khristenko announced in Beijing on July 10 that Russian gas supplies to China may be postponed unless bilateral negotiations on the Western route are completed this year and talks on the Eastern route are finished in 2008. He added that gas supplies along the Western route are expected to start in 2011 and the Eastern route is due to be on stream in 2016 (Interfax, July 10). China, nevertheless, was understood to be reluctant to accept Russian offers of gas at high prices.

In March 2006, Russian President Vladimir Putin traveled to China and pledged to raise oil and gas exports to China. That same month, Gazprom and CNPC signed an agreement on gas supplies from Russia to China, via the “Altai pipeline” of the Western route. Gas supplies via both routes were expected to total 68 billion cubic meters (bcm) eventually, with the first shipments due in 2011. The Western route to China and the Eastern route are expected to funnel 30 bcm/year and 38 bcm/year, respectively.

Although Russia has repeatedly said that its plans to supply China does not mean that oil and gas exports would be rerouted from Europe, Moscow’s China-bound pipeline plans are understood to imply a warning to European consumers: Russia would prefer to have the option to redirect oil and gas to China. Yet the Kremlin’s pipeline game may still be undermined by China’s reluctance to buy Russian energy resources at any price.

Moscow and Beijing also appeared to have struggled to agree on the terms of the ongoing bilateral energy trade. The two countries have long discussed an electricity trade. In the mid-1990s, Russia and China mulled over a project to build a 2,600-kilometer power transmission line from Irkutsk region in Siberia to China at a cost of $1.5 billion. Eventually, however, China abandoned the project in 1999 when the two sides could not agree on pricing.

Nonetheless, Russia has remained interested in exporting electricity to China. Russia’s electricity grid RAO UES supplied about 800 million kWh of electricity to China last year and plans to supply 1.4 billion kWh in 2007 (Vremya Novostei, February 16). In November 2006, the UES and the Chinese State Grid Corporation agreed to raise annual exports of electricity from Russia to China up to approximately 4 billion kWh/year in 2008-2010, 18 billion kWh in 2010-2015 and 60 billion kWh eventually after 2025 (EDM, July 9).

Earlier this year, however, Russia’s plan to boost electricity exports was dealt a major blow. Beginning in February, China refused to import Russian electricity, thus leaving the Bureiskaya and Zeiskaya plants without a market in which to sell electricity (Vremya Novostei, February 16). Chinese negotiators reportedly argued that the Russian price of $0.08/kilowatt-hour (kWh) was unreasonable and nearly twice as high as China’s domestic prices. On August 3, the UES formally requested the Russian government to approve lower electricity prices in order to resume exports to China.

In spite of these setbacks, Russia reiterated its pledges to develop the energy partnership with China. On July 13, Russian and Chinese Foreign Ministers discussed bilateral ties, including energy issues, during talks in Moscow. After the meeting, Russia’s top diplomat Sergei Lavrov noted their mutual interest in investment and energy cooperation, including the coordination of plans to develop Russia’s Far East and Siberia, as well as northeastern China (RIA-Novosti, July 13).

Commercial Challenges

Russia has also pledged to increase trade with China, presumably aiming to prop up the bilateral strategic partnership. High growth rates of Sino-Russian commerce have been seen by Moscow as an important indicator of the health of the bilateral partnership. In 2006, President Putin announced plans to raise bilateral trade levels up to $60-80 billion a year by 2010 (Xinhua, March 17, 2006). That same year, Russia’s trade with China reached some $30 billion, up 15 percent year-on-year (People’s Daily, March 27). Russia still sells more goods to China than it buys, but in 2006, Russia’s trade surplus was down by 35.4 percent year-on-year at $1.73 billion.

In 2007, Russia’s trade with China is expected to reach $40 billion, according to both Russia’s Trade and Industry Chamber and the Chinese government (Xinhua, August 1). Russia is no longer expected to have a trade surplus in its commerce with China, however, and growth rates of bilateral trade have begun to slow down.

Furthermore, Russian exporters voiced their concerns over the growing Chinese industrial exports to Russia. In July 2007, Russia’s Natural Monopolies Institute (IPEM) released a study, warning of substantial economic and social risks of increased trade with China. The Chinese government subsidizes a number of the country’s export-oriented sectors, and subsidized exports could destroy Russia’s heavy industry, thus undermining steel production, the petrochemical sector and other industries, the study said. The study suggested that in order to limit Chinese exports to Russia, Moscow ought to increasingly rely on anti-dumping and anti-subsidy investigations as well as technical regulations.

Apart from military and security cooperation, the dynamic development of energy and commercial ties is meant to demonstrate a significant potential for Sino-Russian relations. If the strategic partnership is to become potent, however, many of the disagreements in the commercial relationship, notably ones involving Russian energy exports to China, will have to be resolved.

Notes

1. See Rosneft press release, available online at: http://www.rosneft.com/news/pressrelease/10614.html.