Three major oil export pipelines have been constructed outside Russia’s sphere of influence over the past decade: the CPC, the Atryau-Alashankou and the BTC.

With growing volumes of oil from two non-OPEC producers, Azerbaijan and Kazakhstan, now flowing to international markets, the Caspian is on the brink of becoming a significant supply source, rivaling Iran and eagerly awaited by Western and Asian consumers. However, shifting domestic priorities, geopolitics and regional rivalries could delay the increased flow of oil both to the West and East as governments and foreign investors diversify export routes in new directions. Despite progress in creating new export channels, Russia continues to exert unparalleled political influence, particularly on the eastern side of the Caspian.
Three important export pipelines not controlled by Russia have been realized during this decade:
On the eastern side of the Caspian, Kazakhstan’s oil from the Chevron-operated onshore TengizChevroil (TCO) joint venture has been flowing through the US-backed 1,580 km Caspian Pipeline Consortium (CPC) system since 2001. CPC can now deliver up to 730,000 b/d to Russia’s Black Sea port of Novorossiysk. While CPC is the only private pipeline that crosses Russian territory, pipeline monopoly Transneft is manoeuvering to take control.
Kazakhstan’s oil from the CNPC-led onshore PetroKazakhstan Kumkol fields has been flowing through the Chinese-backed 962 km Atasu-Alashankou pipeline since 2006. Atasu-Alashankou now delivers 80,000 b/d to northwest China and can accommodate up to 200,000 b/d. Once this pipeline is extended by 2010 to feed oil from western Kazakhstan to Atasu, 400,000 b/d are planned for export to China. The pipeline owned by state companies in Kazakhstan and China is a strategic project initiated by the two countries for political and commercial goals.
On the western side, Azerbaijan’s oil from the BP-operated offshore Azerbaijan International Operating Company (AIOC) production sharing contract (PSA) has been flowing across Georgia through the US government-supported, BP-led, 1,768 km Baku-Tbilisi-Ceyhan (BTC) pipeline since 2006. BTC now delivers as much oil as CPC, or 730,000 b/d, to Turkey’s Mediterranean port of Ceyhan, rising to 1 M b/d next year. As a private pipeline, it is less susceptible to Russian meddling.
With CPC, BTC and other smaller pipeline and rail alternatives, western consortiums are exporting over 1.5 M b/d and are poised to export over 2 M b/d next year, a figure that could double by 2020. Current production in Kazakhstan and Azerbaijan is about 1.36 M b/d and 860,000 b/d, respectively, but the next ten years promise significant increases. In addition to a sizeable US and European Union oil company presence, Russian, Chinese, Japanese, Korean, and Indian companies are also flocking to the region. The Caspian is seen as one of the last frontiers for investors, but its future role as an energy supplier will be determined by pipeline politics.

Export bottlenecks, geopolitical rivalry, regional blockages…

Russia vs the United States : TCO and CPC
The Kazakh government and the US-led TCO have been trying for three years to reach agreement with Russia over expansion of the CPC pipeline to double its capacity to 1.34 Mb/d (67 Mt). Chevron and ExxonMobil together hold 75% of TCO and 22.5% of CPC. The Russian government owns 24% of CPC. TCO has been preparing to increase production from 290,000 Mb/d in 2007 to 560,000 Mb/d in 2008. While CPC is a US-backed private pipeline built in the late 1990s in partnership with the Russian and Kazakh governments, political circumstances have changed. Since the election of President Vladimir Putin in 2000, CPC has been caught up in the Russian government’s shifting domestic priorities and its fate is tied to the growing state control characterizing Vladimir Putin’s second term.
In May 2007, Russian pipeline monopoly Transneft took over management of the Russian government’s CPC share and is also leading negotiations with Chevron over the expansion. Transneft opposes private pipelines on Russian territory and has been contesting the terms of the CPC’s operation. Negotiations remain deadlocked. If Transneft drags out the process, the September 2008 deadline for CPC expansion under the original agreement will expire.
CPC’s expansion was planned for completion in 2008 to meet the rise in TCO’s output. The lack of progress could lead to production slowdowns in Kazakhstan. While Russian relations with Kazakhstan are marked by good personal ties between President Putin and President Nursultan Nazarbayev, old rivalries fester when it comes to oil and gas. The same can be said for the US With relations strained during Putin’s second term, US oil interests in Kazakhstan may feel some of the fallout. Since Kazakhstan will be reliant on Russian routes for a significant portion of its oil and gas exports for the foreseeable future, a complicated dependency remains.
If an agreement with Transneft for CPC expansion is not approved this year, the TCO partners will have to invest in alternative export avenues. Other producers could be forced to reassess the timing of their planned output increases. While this would be a setback for Kazakhstan, it would also negatively impact US and EU companies and dampen the west’s expectations on the volumes and timing of Caspian oil flows.
Transneft has called on Chevron to commit volumes to the Russian-led $1 billion 280 km Bourgas-Alexandroupolis Bosporus bypass that would carry 700,000 b/d across Bulgaria to Greece. Russia wants to re-direct Chevron’s CPC crude to this Russian-controlled pipeline to ensure that current export flows from Russia through the Turkish Straits are not further penalized by costly delays in winter. Russia has redirected significant volumes of its own crude export flows to the Baltic and in the future to the Pacific, so as to make Bosporus congestion a non Russian issue. Chevron has not yet agreed to commit volumes to Bourgas-Alexandroupolis. Because Chevron’s oil is critical for the pipeline’s viability, this gives Transneft an additional pretext to delay agreement on CPC’s expansion.

Kashagan’s export options
Next in line in terms of sizeable imports from the eastern Caspian, after TCO, will be oil from the ENI-operated’s offshore Kashagan field in Kazakhstan’s North Caspian —the largest commercial oil discovery since the 1970s. ENI, Total, ExxonMobil and Shell each have equal shares of 18.52% in Kashagan. The complex technical delays in developing this giant field have hidden the fact that the consortium is facing obstacles in exporting its intended production.
Kashagan initially planned to rely on existing pipeline and rail systems to evacuate its early output, which could reach 250,000 b/d in 2011. A new pipeline system by 2012-2014 is seen as essential. Output in the Kashagan fields could eventually reach 1.5 Mb/d. The US has taken a strong interest in Kashagan’s development and is trying to replicate its success with the BTC pipeline by working to tie Kashagan’s export flows into BTC.
The northern part of the Caspian is not deep enough to be accessible by tankers and remain frozen in winter. Therefore a 730 km pipeline is necessary from Eskene, on the coast near Kashagan, to access the Caspian deepwater at the future Kazakh port of Kuryk. The Eskene-Kuryk pipeline is considered the first segment of the Kazakhstan Caspian Transportation System (KCTS).
The uncertainty over CPC’s expansion prospects has sped up KCTS planning. KCTS is now slated to start with 500,000 b/d of capacity in 2012, eventually rising above 1 Mb/d if necessary. The initial 500,000 b/d would suffice to accommodate Kashagan’s early output, together with certain Tengiz production increases. The eventual decline of AIOC production in Azerbaijan and the development of new shipyard(s) in the Caspian area will facilitate increased future oil exports from Kashagan and Tengiz through BTC, but alternative routes from Kuryk and Baku should be necessary. So far, there is no infrastructure being laid to Kuryk and it is not clear when a southern export strategy will be implemented. A KCTS sponsor group was formed earlier in 2007 that includes the seven Kashagan partners led by Total, Chevron and the Kazakh national company KazMunaiGas. However, the KCTS shareholding structure has yet to be decided. KCTS foreign partners have indicated they be willing to invest in the $3 billion KCTS system. The KCTS concept was developed by the Kashagan consortium with Total’s guidance and initially should serve as its main export option. The decision to make this investment is not easy for those Kashagan partners that do not have a stake in BTC. Only a handful of companies that are developing Kashagan, including Total, are also partners in BTC. Both the US and EU support the Kashagan-BTC link.

Kashagan and the BTC
The BP-led BTC pipeline was a complex project and was achieved with enormous US government political backing and limited US company participation. BTC faced numerous delays, cost overruns and technical difficulties. It is now operational, although with higher than expected tariffs. It is the only private pipeline in the region that bypasses both Russia and Iran. According to the US government’s vision, it also anchored the southern Caspian’s oil exports in Turkey, moving routes away from Iran. BTC’s current capacity of 1 Mb/d is adequate to accommodate Azerbaijan’s own oil exports until 2009 but as AIOC increases its production to 1.2 Mb/d in 2010, BTC will need to be expanded. AIOC believes it can extend peak production of 1.2 to 1.3 Mb/d, possibly even until 2020. To accommodate oil from Kazakhstan, further BTC expansions will be needed. This will require negotiations with AIOC and the governments of Azerbaijan, Georgia and Turkey. Expanding BTC in increments to 1.6 Mb/d, 1.8 Mb/d and eventually to 2.0 Mb/d is possible but it will be costly and take time. An expanded BTC is likely to have greater government control than the original system and will be less attractive to private companies. It will be difficult to calibrate the timing of all the elements necessary for increasing Kazakh exports in this western direction,
beginning with production volumes in Kazakhstan, new pipeline infrastructure in Kazakhstan, new port infrastructure in Kazakhstan and Azerbaijan, new-build tanker availability for cross-Caspian shuttling and BTC’s expansion. While Kazakhstan’s government talks about production rising to 2.6 Mb/d (double today’s level) by 2015, this can only happen if export solutions are in place.
The US wants to see Kashagan’s oil transported across the Caspian Sea to Baku and then through BTC and has promoted this option with the Kazakh government. Growing Kazakh commercial interests in Georgia also seem to favor this solution.

The Iran option is opposed by the US
Currently, about 100,000 b/d of Kazakh oil is swapped through Iran. Kazakh shipments arrive at Iran’s northern port of Neka and an equal volume is available for export from the south in the Persian Gulf. With its crude oil production stagnating, Iran has been developing its infrastructure to swap more oil. Iran is a major outlet for Turkmenistan’s limited oil exports and currently a marginal one for Kazakhstan and Russian Caspian exports. From Kuryk, it would be possible to extend Kazakhstan’s export pipeline infrastructure to Iran. A pipeline to Iran has been discussed for a decade with little progress because of US policy, which seeks to isolate Iran. Another difficulty would be to add Turkmenistan as a transit country to the Kuryk-Neka shipping route; it will likely result in more fees, risks and uncertainty. In addition, a minimum volume commitment of 400,000 to 600,000 b/d is required to open a pipeline route on such a long distance, while a maritime route allows committing only 80,000 b/d at a time for the shuttling of one 60,000 DWT (deadweight tonne) tanker. Under current law, US companies would be barred from participating in or using a portion of a pipeline that ships oil to Iran.

The China option draws oil away from the West
The Atasu-Alashankou pipeline currently carries about 80,000 b/d from PetroKazakhstan’s Kumkol fields to northwest China. China supplies the oil to a refinery and petrochemical complex, which it is expanding, in the Xinjiang Uygur Autonomous Region. Kazakhstan and China have agreed to build a pipeline connection between oil fields in western Kazakhstan and the Atasu-Alashankou pipeline, with a 400,000 b/d pipeline expected to stretch from western Kazakhstan to China by 2010. While this pipeline may be attractive due to low tariffs, other conditions are unknown. Chinese companies pay prices at the border well below the Brent level and western companies will demand more transparency if they decide to use this option. Still, China has begun to make its mark on the Caspian region.

The region’s export infrastructure uncertainty
Some conclusions can be drawn from this discussion. Azerbaijan can estimate its production outlook and has clarity on its export infrastructure to move its production to market. With the BTC pipeline up and running, Azerbaijan has bought itself increased political flexibility and is much less reliant on Russia than countries to its east.
Kazakhstan knows it has significant production upside but it is stuck between Russia and other difficult choices. Azerbaijan can anchor its exports to Turkey and the west, but Kazakhstan’s location places it closer to Russia, China and Iran. At the same time, the BTC provides a western-oriented commercial route with fewer political pitfalls than other export options from Kazakhstan.
US and EU oil companies involved in producing oil in Kazakhstan will have to make firm export decisions despite their lack of control over some important export variables. Exports continue to be driven by geopolitical factors beyond the control of corporate decision-makers. Kazakhstan’s oil production finds itself hostage to complicated forces that are not only difficult to predict, but are often at odds with commercial goals. Despite Kashagan’s tough location and third position among major Caspian projects, the Kashagan partners have two advantages: one, Kashagan may become the most important export project in the Caspian due to its massive size, and two, it can draw on lessons from CPC and BTC.
For both the producing companies and the Kazakh government, even a short delay or production loss can have economic consequences. With upstream investments as much as 10-20 times greater than those necessary for export, it is critical to have export capacity when needed. Solutions for both Tengiz and Kashagan must be clarified soon so that producers do not remain hostage to continuous delays in CPC’s expansion: these are KCTS combined with a number of complementary and different systems. But all choices will be driven by political influences. Private pipelines are no longer likely. Governments will either own the next generation of export pipelines or have majority stakes and will determine which pipelines get built.
TCO and AIOC have provided valuable insights for future exporters; they have paid the fee for educating other investors but have also benefited from friendlier times for investors. With growing volumes from the Caspian and export routes hostage to geopolitics, it has become clear that it is important to create redundancy and optionality so that oil can flow in multiple directions. This is the only way to reduce the risks of an oil export cutoff should the politics of any one direction be compromised. Optionality means that pipelines or export systems to China and Iran from the eastern Caspian are a logical solution to creating a geopolitical balance for the region’s oil-producing states.