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Energy-hungry China looks to Latin America

 

By the Economist Intelligence Unit

China's fast-paced economic growth—averaging 9.1% per year in the last decade—can only be sustained by high energy consumption, an increasing amount of which will need to be imported. Given global competition for energy resources, China's energy policy is now focused on securing a steady supply in the medium to long term. This means looking beyond traditional suppliers in Asia and the Middle East and seeking new alliances with potential suppliers in Africa and Latin America. However, while Latin America's importance to China is growing, it will never become a core energy supplier. Further, relations are likely to remain of a commercial nature, and China is not apt to become a committed political ally for Latin America.

China has been a net oil importer since 1993, and energy demand is expected to continue increasing at a greater proportional rate than production. In 2005 China produced 3.6m barrels/day, only slightly up from 2.8m b/d in 1990. China consumed 6.9m b/d in 2005, representing a 100% increase in consumption in the last decade. This made China the world's second-largest consumer of petroleum products in 2005, just behind the US. The US Energy Information Administration estimates that China's consumption will increase to 15m b/d by 2030, whereas its output will lag behind at 4.2m b/d.

The country's energy demand dictates that it will need to increase both its imports and its suppliers in the next ten years if it is to avoid shortages. At present, the bulk of China's oil imports come from the Middle East (40% in 2005 according to a UK energy company, BP), closely followed by Africa (23%) and Asia (21%). However, there are strategic risks associated with China's long-term reliance on these established trading partners.

A key risk is international competition, particularly with regard to the Middle East. With fellow high-level oil importers such as the US already well established in the region, aggressive competition will mean that China cannot rely on the Middle East alone to make up its projected supply shortfall. In any case, China will be wary about becoming over-reliant on a single supplier, whether a specific country or a region.

This is closely linked to the risk of reliance on politically unstable suppliers and routes of supply. Of China's top five oil suppliers in 2005, Saudi Arabia, Angola and Iran remain at risk either of internal political upheaval or terrorist attack. Meanwhile, 80% of China's oil imports pass through the unstable Strait of Malacca, where high levels of piracy (239 attacks in 2006) pose a continual threat to maritime traffic.

China’s footprint

As a result, China is increasingly looking beyond its immediate sphere of influence, and is beginning to forge stronger links with energy producers in Latin America. In November 2004 the Chinese president, Hu Jintao, carried out the most extensive tour of the region ever made by a Chinese head of state, and pledged investment totalling US$100bn over the following ten years. In terms of energy investment, this has taken varying forms. The Chinese energy footprint in Latin America now includes direct stakes in energy companies, joint ventures with state companies and investment in infrastructure, specifically transport, pipelines and refineries.

This investment policy has been implemented through China's two major oil firms, the China National Petroleum Corp (CNPC) and the China Petroleum and Chemical Corp (Sinopec). Although both these firms were opened up to private investment through Initial Public Offerings (IPOs) in 2000-02, the Chinese government retains a majority stake in each.

Among CNPC's first ventures was a US$200m purchase of a 45% stake in an Argentinian-owned Peruvian unit, PlusPetrol Norte, in February 2004. PlusPetrol Norte is the main crude oil producer in Peru, and produced approximately 17.8m barrels in 2006. In September 2005 a CNPC-Sinopec-led consortium, Andes Petroleum, agreed the US$1.42bn purchase of the Ecuadorian assets of a Canadian oil firm, Encana. This deal gave Andes Petroleum control of five blocks, producing in total approximately 75,000 b/d, and with proven reserves of 143m barrels. The consortium also acquired a strategic 36% stake in Ecuador's Oleoducto de Crudos Pesados (OCP, the new heavy crude oil pipeline), which pumps 450,000 b/d, and as such CNPC will be able to exert some control over direction of exports through the OCP pipeline. A year later, Sinopec formed a consortium with India's ONGC Videsh to spend US$850m on a 50% stake in Colombia's Ominex de Colombia, a subsidiary of US-based Ominex Resources. Ominex de Colombia's oilfields produce 20,000 b/d and have proven resources of 300m barrels.

Although these investments are relatively small, they represent an opportunity for CNPC to gain a foothold in these countries, with the potential for greater investment in the future.

CNPC and Sinopec have also made progress in reaching agreements for joint ventures with state-owned companies. In 2004 Brazil's state-owned oil company, Petróleo Brasileiro (Petrobras), signed a co-operation agreement with Sinopec for joint oil exploration, production, refining, product sales, petrochemicals and pipelines. It will involve China providing technical assistance in the recovery of mature oil fields, while Brazil will assist with deep sea drilling in the China Sea. They have also signed a memorandum of understanding regarding the proposed US$1.3bn gas pipeline linking the north-east and the south-east of Brazil—it could in future be linked to the proposed Gasoducto del Sur (Gasur) pipeline which proposes to connect Venezuela, Brazil and Argentina. Future involvement in Gasur could prove beneficial for China should it seek to diversify its energy holdings in Latin America into natural gas, rather than primarily in the oil sector (as it is doing at present).

Moreover, the Brazil-Bolivia pipeline and the proposed Bolivia-Argentina pipeline will link Bolivia into Gasur as well, allowing China access to Bolivia’s large gas reserves. Easier transportation of gas over the Latin American continent would potentially allow China to pick up gas exports from any point along the pipeline. At present, China’s investment in Brazilian infrastructure (especially ports) would indicate that it views Brazil as the most convenient export source, but increasing investment into Venezuela’s infrastructure and gas sector could allow China to diversify export sources to the north of the continent as well.

In Venezuela CNPC has signed a US$350m deal to invest in 15 oil fields with proven reserves of 1bn barrels in Anzoategui state, and US$60m in natural-gas projects. CNPC has also agreed a joint venture with state-owned oil firm Petróleos de Venezuela (PDVSA) to develop fields in the Orinoco river belt. In Bolivia, a 2004 exploration and production deal with the state firm, Yacimientos Petrolíferos Fiscales Bolivianos (YPFB), is currently on hold owing to the uncertainty surrounding Bolivia's energy sector. However, CNPC's willingness to allow YPFB a 51% stake in the projects should meet Bolivia's requirements for YPFB majority control.

Venezuela: ideological partner and oil supplier

Venezuela is a natural ally for China, given the government's socialist ideology and, more importantly for China, the country's enormous oil and gas reserves—it has proven conventional oil reserves of 80.5bn barrels, a potential 235bn-270bn barrels of non-conventional crude deposits, and proven natural-gas reserves of 149tr cu ft. The current energy policy of the Venezuelan president, Hugo Chávez, has steadily raised state control over the oil and gas industry since assuming power in 1999. By law, all foreign operations in Venezuela must be joint ventures with PDVSA, which owns a majority stake in the project.

Mr Chávez's foreign policy is closely linked with his energy policy, and his antipathy towards the US has led him to declare that Venezuela will reduce its oil exports to the US, to which it currently directs around 60% of its oil products. China has been able to take advantage of this favourable environment to promote itself as a new strategic partner for Venezuela. China's links with Venezuela are now its strongest in Latin America. As well as the US$1.5bn already committed to Venezuela, the Orinoco joint venture could require further investment of US$3bn-4bn, making Venezuela by far the greatest recipient of Chinese investment in the region.

Will China it live up to its promises?

Yet Chinese investment may prove less than Venezuela and other countries hope.
China may have pledged significant amounts, but actual funding may be considerably less. In addition, there is a strong tendency for Chinese companies to use primarily Chinese workers in foreign operations—so far Chinese workers have been predominantly used in Venezuela—reducing the employment and training opportunities for the labour forces of the host countries. Brazil has sought to enforce legal limitations on the introduction of foreign nationals who work on Chinese projects, but few other Latin American countries possess legislation limiting or prohibiting the practice.

In addition, leveraging greater energy links into direct political support is proving harder than expected. Despite shared socialist rhetoric, China has failed to provide more concrete backing for Venezuela's foreign initiatives. In Venezuela's 2006 campaign to gain a rotating seat on the UN Security Council, China refused to be drawn into the US-Venezuela rhetorical conflict. On a wider scale, China opposed the proposals for UN reform put forward by Brazil, Germany, India and Japan, despite previously offering rhetorical support for Brazil's bid for a permanent UN seat.

Pragmatism rather than ideology

This divergence between Chinese rhetoric and reality seems symptomatic of China's core policy towards Latin America. Latin America represents a welcome diversification of its energy supply, but practical and political constraints will ensure that Latin America will always remain a second-tier energy partner. China may be increasing its oil imports from Latin America, but it will never become heavily dependent on this supply source.

For example, Venezuela's crude oil exports to China account for just 2.3% of China's imports, well below Angola's 18%, Saudi Arabia's 16% and Iran's 12%. At present, it takes 44 days for Venezuelan oil to be shipped to China. Even if plans for a pipeline through Colombia are realised, this would only reduce shipping time by approximately 20 days, with closer supply sources therefore remaining more attractive.

In purely strategic terms, the distance between China and Latin America means that China would be unable to defend its Latin America supply routes in the hypothetical event of a global conflict. Latin America would be among the first suppliers to be jettisoned, with China concentrating on defending suppliers closer to home. As such, China is unlikely to risk placing too much reliance on energy supply from Latin America, even if it were able to displace long-established supply links between Latin America and the US.

Chinese policy towards Latin America is essentially pragmatic: it is willing to use socialist rhetoric if this facilitates the winning of contracts, but it does not base contracts on ideological affinity. Equally pragmatic is its approach to the potential triangulation of relations between the US, Latin America and China. China is well aware of the US's traditional hegemony in the region, and will be wary of being perceived as a regional challenger. Although China is not averse to strengthening links in Latin America, it does not consider the region valuable enough to risk provoking a clash with the US. It will therefore be reluctant to offer political support to its Latin American allies when this runs too contrary to US interests. This reduces the extent to which countries such as Venezuela, Bolivia and Ecuador can hope to use their new alliances with China to counterbalance US influence in the region.

In addition, China will be unwilling to take actions that would severely damage its relations with its corporate competitors in Latin America—including Chevron (US); Royal Dutch Shell (Holland); ConocoPhillips (US); ExxonMobil (US); ENI (Italy); Statoil (Norway); Repsol (Spain); BP and Petrobras. China is involved with many of these companies in strategic partnerships in other countries, and it would be counterproductive for its business strategy to engage in overtly uncompetitive practices, even if the host country were to permit this.

Further, Latin America is likely to remain economically dependent on the US. The extent to which China is seen as a challenger to US economic and energy interests in Latin America is more one of perception than reality. In 2005 Latin America sent 47% of its total exports to the US, 14% to the EU and just 4% to China. Accordingly, even if China fulfils its pledge of US$100bn investment into the region by 2010, it will still wield considerably less economic influence than the US.

The Economist is a leading business and politics magazine. Petroleumworld not necessarily share these views.

Editor's Note: This article was first published by The Economist.com, Tuesday, April 10, 2007. Petroleumworld reprint this article in the interest of our readers.

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Petroleumworld News 04/23/07

Copyright © 2007 The Economist.com. All rights reserved

 

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