Europe passes the oil buck to
China By Phil Radford
Monday's decision by European Union
foreign ministers to quickly turn the taps off
crude oil imports from Iran will dramatically add
to the pressure on Tehran to negotiate over its
nuclear program.
The EU agreement will
close off Iran's second-biggest market for crude
oil, responsible for a fifth of oil exports.
Without concessions for cash-strapped Greece or
Italy, the decision forces the pace of
decision-making in Tehran. Crude oil exports
generate 80% of Iran's foreign earnings, without
which Iran cannot pay for imports.
The
US-sponsored sanctions movement means Tehran's
options are constrained. Iran's next biggest oil
customer is Japan, which buys 14% of exports, but
the country's finance minister has
already signaled that
Japan wants to take steps to reduce that share.
South Korea's deputy foreign minister has also
indicated support for the international embargo
policy, which puts another 10% of Tehran's crude
exports on a declining trajectory.
India,
which buys 11% of Iranian exports, might provide
relief, but banking sanctions and a
semi-convertible rupee mean the country's
refineries already struggle to pay for the oil
they do import.
That leaves China, Iran's
biggest oil customer, in an exceptionally powerful
position. With EU markets out of play, and no
likely respite from other Asian countries, what
China decides to do with its 22% share of crude
oil exports will likely make or break Tehran's
hopes for economic survival. But following the EU
decision, Chinese leaders find themselves in an
acutely uncomfortable position: they are now the
arbiters of a sanctions policy they have publicly
denounced.
China's
choice Although they don't welcome the
situation, Chinese leaders have a genuine choice
about how to act, and there are upsides to both
courses. If they decide to play ball with the
West's sanctions, then Iran's fate looks sealed,
and Tehran will either have to negotiate or pursue
diplomacy by other means - presumably in the
Strait of Hormuz.
Either way, China will
get the credit for forcing change, and its ships
won't have to do the fighting.
Alternatively, China could decide to not
play ball, and help their refineries cash in on
the situation. According to Bloomberg and other
news agencies, Chinese executives at China
International United Petroleum & Chemicals
(Unipec), the trading arm of refining giant China
Petroleum & Chemical Corporation (Sinopec),
are already negotiating heavy discounts from the
Iranian National Oil Company (INOC), which now has
more oil than it can sell.
And if Western
governments don't like China buying cheap crude at
their expense, China can point at the already high
spot price for crude, and ask them to speculate on
what would happen if they didn't.
Deftly
managed, China could even have it both ways. By
negotiating a discounted price but maintaining
last year's volumes of approximately 550,000
barrels per day (bpd), Chinese executives and
officials can achieve the desired effect of oil
sanctions by forcibly lower Iranian foreign
earnings, but without disturbing Chinese import
volumes.
China could also seize this
once-in-a-generation opportunity to cheaply
augment its strategic oil reserves, which might be
easier to hide from Western governments since
increased import volumes would not show up on
companies' monthly refining statistics.
Rule number one: Don't take sides For the moment, Chinese leaders are inviting
the plague on both houses. Last Friday, Chinese
Premier Wen Jiabao bluntly warned Iran that China
"... adamantly opposes Iran developing and
possessing nuclear weapons", while also vigorously
defending his country's right to "legitimate trade
with Iran".
But it does appear that
Chinese oil companies are playing hardball with
Tehran. Bloomberg has reported that Unipec
executives in Tehran have, unusually, still not
finalized 2012 import contracts with INOC. And
last week, the Washington Post reported that daily
January exports to China had so far dropped by
almost a half to 285,000 barrels per day (bpd),
although an Iranian-filled 2 million-barrel
capacity tanker was due in at Caofeidian, Hebei
province on January 23.
Awkward
straits Opportunities aside, Beijing has
difficult waters to navigate, and three
particularly dangerous cross-currents.
The
first is commercial, in the form of America's
Comprehensive Iran Sanctions, Accountability and
Divestment Act 2010, which gives the US executive
the power to prevent any company active in Iran's
petroleum sector from receiving US export licenses
or borrowing more than US$10 million from a US
bank.
On January 12, the Barack Obama
administration decided to enforce these provisions
against a Chinese company, Zuhai Zhenrong, which
the US State Department says brokered the sale of
500,000 tons of petroleum in 2010.
Although the action won't affect Zuhai's
business, bigger companies will take notice.
Chinese companies have invested heavily in Iran,
helping the country revitalize its sanctions-worn
industries. In particular, Sinopec and China
National Petroleum Company have signed huge
exploration deals, for the Yadavaran and South
Pars fields. These companies do not want to block
themselves out from the US market.
Erica
Downs, a China energy specialist at the Brookings
Institution, says US officials are privately
pressuring Chinese companies and that a tacit
agreement has evolved - don't make new
investments, or "back-fill" Iranian contracts
vacated by other foreign companies, and we will
leave your current businesses alone.
Scaring the bankers The second
difficulty is financial sanctions, in the form of
the US National Defense Authorization Act 2012,
which Obama signed on December 31. The act
prescribes sanctions against any company that
deals with the Iranian central bank, through which
all international oil payments are now settled.
Although it comes with discretionary
presidential waivers to ensure the oil spot price
isn't sent rocketing out of control, the act's
deterrent effect was immediate and global. As
Akihiko Tembo, chairman of Petroleum Association
of Japan commented, "No matter what the Japanese
government says, we can't keep doing business with
Iran, once the banks pull back from transactions."
And since processing oil payments is
low-value business for banks, the likelihood is
that most will quickly withdraw from dealing with
Iran. Chinese banks don't want to be locked out of
US markets either.
Unwarranted
responsibility The third, and potentially
biggest, problem for China is that the country may
become accountable for the spot price of oil.
According to an analysis by New York
analysts Rhodium Group using November
International Energy Agency data, the Organization
of Petroleum Exporting Countries has unused
production capacity of approximately 3.9 bpd, but
any sudden shortfall would have to be met by
members of the Gulf Cooperation Council (GCC) -
Saudi Arabia, Kuwait, Qatar and the United Arab
Emirates - which have spare capacity of about 2.5
million bpd. This is almost exactly equal to
Iran's current average daily exports, estimated at
2.2-2.5 million bpd.
However, if all the
1.2 million bpd of Iranian crude currently shipped
to Europe, Japan and Korea is replaced by
increased GCC production, spare capacity would
drop to 1.0 to 1.5 million bpd, historically very
low levels, and well within the range where shocks
or increased demand would dramatically increase
the spot price.
This puts China in the
position of a swing consumer: the only country
able to quickly divert large purchases between the
GCC and Iran's discounted surplus to even out the
spot price. If the spot price does become
volatile, China will have to play its hand with
considerable finesse.
Chinese purchasers
would have to finely judge market supply and
demand, as GCC countries ramp up production, and
calculate the impact of any release of strategic
reserves. Meanwhile, Chinese leaders would be
anxious to avoid accusations of profiteering.
Best guide: Best interest Ultimately, the best guide to China's likely
course is a correct appreciation of the country's
own best interests. As a massive crude importer,
China wants a cheap and reliable supply of oil. By
threatening the Gulf of Hormuz, the Iranian regime
has clearly shown it is a long-term threat to that
interest.
So in the long term, Beijing
would be sympathetic to Western sanctions, and try
to ensure they inflict sufficiently agonizing pain
in Tehran to achieve their objective.
At
the same time, China would want to protect its
companies' existing investments in Iran, so they
retain pole position for the day Iran becomes
"normal" again, and its oil industry cranks back
into first-world gear. That means acting
sympathetically towards Tehran, at least to the
extent of not demonstrably knifing its government
in the back.
As China steers this fine
course, both Iran and the West can expect lots of
pretexts for acts, or omissions, they find
objectionable. But China's long-term interest is
clear. Sorry, Tehran.
Phil
Radford is a freelance writer and
international security analyst, based in
Sydney.
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