China and the Energy Equation in Asia: The Determinants of Policy Choice 9781626373006

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CHINA AND THE ENERGY EQUATION

IN

ASIA

CHINA AND THE ENERGY EQUATION

IN

ASIA

The Determinants of Policy Choice

Jean A. Garrison

Published in the United States of America in 2009 by FirstForumPress A division of Lynne Rienner Publishers, Inc. 1800 30th Street, Boulder, Colorado 80301 www.firstforumpress.com and in the United Kingdom by FirstForumPress A division of Lynne Rienner Publishers, Inc. 3 Henrietta Street, Covent Garden, London WC2E 8LU © 2009 by FirstForumPress. All rights reserved Library of Congress Cataloging-in-Publication Data A record of the Cataloging-in-Publication data for this book is available from the Library of Congress. ISBN 978-1-935049-05-0 (hardcover: alk. paper) British Cataloguing in Publication Data A Cataloguing in Publication record for this book is available from the British Library. This book was produced from digital files prepared by the author using the FirstForumComposer. Printed and bound in the United States of America The paper used in this publication meets the requirements of the American National Standard for Permanence of Paper for Printed Library Materials Z39.48-1992. 5 4 3 2 1

Contents List of Tables and Figures Preface

vii ix

1

China’s Search for Energy Security

1

2

Making China’s Energy Policy

21

3

The “Great Game” in Central Asia

41

4

Pipeline Politics in East Asia

65

5

Challenges and Opportunities in Southeast Asia and Beyond

87

6

Juggling Priorities at Home

111

7

Implications of China’s Quest for Energy Security

141

List of Acronyms and Abbreviations Bibliography Index

v

153 157 181

Tables and Figures Tables

1.1 Asia-Pacific Inward FDI Flows

11

3.1 Caspian Sea Area Production and Reserve Figures

43

3.2 Chinese and Russian Trade with Central Asian Countries

53

5.1 Overall ASEAN Trade with Selected Countries

99

Figures

1.1 U.S. and China Energy Demand Trend by Type (2005)

4

1.2 U.S. and China Energy Demand Trend by Type (2030)

5

2.1 China’s Energy Policymaking Apparatus

31

3.1 Central Asian Energy Map

46

4.1 Northeast Asian Energy Map

71

5.1 Southeast Asian Energy Map

92

6.1 China Power Generation

115

6.2 China’s C02 Emissions by Type

124

6.3 U.S. C02 Emissions by Type

125

vii

Preface The 2008 energy crisis characterized by the record price spike of $147.27 per barrel-of-oil on July 11, as well as the ongoing price volatility, highlight how uncertain and insecure our energy future is. This, coupled with the International Energy Agency’s 2008 forecast that by 2030 the globe needs to add 64 million barrels-per-day of additional capacity—or six new Saudi Arabia’s—to meet expected demand, illustrates the ongoing nature of the energy challenge. Put simply, the energy crisis is here to stay. This book is motivated by three simple, but interrelated ideas, regarding the energy crisis we face in the 21st Century. 1) Energy insecurity is one of the defining issues of our present and future. 2) Depending on how we respond to the looming energy crunch—that is, whether we make plans now in terms of diversification of energy sources and type, greater investment in infrastructure, greater efficiency in energy use, etc.—will determine whether we can adjust gradually or face a scramble for energy resources, repeated energy crises, and perhaps much worse. 3) We face this crisis individually and as a globe. How “we” respond to the linked national interests and collective interests regarding energy will determine future prospects for cooperation or conflict on a global scale. A quick perusal of the editorial pages of major U.S. newspapers over the last three years places China and its rapidly rising energy demand squarely in the center of explanations about how and why the U.S. and the globe face an energy crisis. From this perspective, China’s development and the way it develops in the future are framed as everyone’s problem. Whether China’s behavior is a threat, however, should be treated as an open question. A first step in answering this question— and the central purpose of this book—is to explain China’s quest for energy security. Thus this book addresses the twin challenges posed by rising energy insecurity globally and the need to understand the rise of China within this context. In some ways China is a victim of its own success. China’s energy dilemma includes the added challenge of poverty to be overcome through development, and a development path fueling unsustainable energy growth. While China’s rise is an economic miracle, today it is choking on its own success. Concerns about rising social and environmental costs have its government seeking energy conservation as part of its future energy security. The growing climate crisis, and China’s prom-

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inence as the world’s leading greenhouse gas emitter, add impetus to this discussion. This book seeks to make a practical policy and conceptual contribution to the debate surrounding China’s energy security and foreign policy by bridging the gap between policymakers and scholars of foreign policy. First, it seeks to understand how the paradigmatic debate surrounding energy security shapes how we interpret China’s quest for energy security. I argue there are consequences for how we view the world in terms of the way a problem is defined, what policy choices are made, and whether cooperation or conflict will develop. Second, by adopting a foreign policy analysis lens, this work argues that looking within states is an appropriate and fruitful way to understand a country’s foreign-policy intentions. In this context, we can better assess what specific drivers shape China’s energy security policy. The picture that emerges is one that illustrates the complexity of the bureaucratic and policy interests involved. From this perspective, there can be competing perceptions of reality which shape leader’s choices and responses. Defining the national interest in energy security is shown to be no simple task. A Note on Sources

In writing this manuscript, I used multiple sources of evidence to reconstruct, to the degree that I can, the “inside” story of how the energy security debate is shaped within China. My starting point was to rely on the plethora of public sources such as published reports, academic journals, and government documents from the U.S. and China. Supplementing the public record were dozens of conversations and background discussions with various energy officials, government sources, and regional experts across 2007-2008 in China, Hong Kong, Kazakhstan, and the United States. Although studying a contemporary issue such as energy is never easy, and getting an accurate view of Chinese policymaking practices is a challenge to outsiders, a whole host of individuals willingly shared their time and expertise to make this project possible. In particular, I would like to thank Bill Leach for making my stay in Washington, DC, in fall 2007 possible. The staff of the Maureen and Mike Mansfield Foundation—particularly Gordon Flake, Margaret Fu, and Paige Cottingham-Streater—put up with me during my tenure as a visiting fellow in fall 2007 and facilitated my work in Washington. In addition, the experience of the World Energy Congress in Rome in November 2007, previous observations of task force meetings of the Asia-Pacific Partner-

Preface

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ship on Clean Development and Climate, and my previous work in the State Department proved invaluable experiences. At the University of Wyoming, the Flittie Sabbatical Award through the College of Arts and Sciences, an International Travel Grant through International Programs, and funding from the School of Energy Resources and the President’s Advisory Council on Minority and Women’s Affairs made this research financially possible. Without the long-term support of the Department of Political Science (and the International Studies Program) at the University of Wyoming which provided funds and graduate assistantship, this project would still be in its infant stages. Particular thanks should go to Ahadjon Abdurahmonov whose hard work shaped the content of the book greatly, to Dan DePeyer who provided essential background research, and Zarifa Dushdurova whose considerable drafting skills were put to good use. The students in my fall 2008 Energy Security Seminar read the manuscript and provided useful feedback that has made this a stronger book. The family and friends who deserve thanks are too numerous to mention, but know who they are. Two special mentions, however, are appropriate. Sparky and Molly watched patiently as the whole book took shape.

1 China’s Search for Energy Security From a historical, geopolitical perspective, securing access to energy resources has meant militarization and belligerent policies among the great powers as they compete for control of resource-rich, strategic real estate. For example, imperial Japan expanded to the Asian continent to secure Manchuria’s coal and Northeast China’s oil resources to fuel its war machine.1 Similarly, the West’s economic development model was based on colonial domination with the European powers competing to acquire and control colonial resources. Many scholars and policymakers argue that securing scarce energy resources is the single most important challenge facing a country’s national security today. The insecurities of the United States, China, Europe, Japan, and most of the developing world, which rely on energy imports, make them all vulnerable to supply disruptions in a time of increasing uncertainty in the global energy supply. Increasing insecurity of supply today accompanied by growing demand potentially leads to a dangerous security dilemma. Growing scarcity in the face of rising oil prices creates conditions for competition among states and fears of future “resource wars.”2 Such traditional geopolitical analyses view energy security through the lens of a classic zero-sum competition that predicts that conflict over scarce resources is inevitable. This context places China’s growing search for energy into a win-lose scenario that pits it against the United States and all other contenders. With this scenario, China is caught up in a broad strategy to buy up scarce energy reserves around the world and thus take “our” oil.3 In contrast, the neoliberal perspective emphasizes that the energy futures of China and the United States, as well as Asia and the globe as a whole, are intimately linked. States that share common challenges— such as vulnerability to fluctuating production levels and rapid price shocks—may also share common interests that foster cooperative relations. Given economic interdependence, China and others certainly share economic consequences if there is a disruption in energy supplies. They also are affected by the same transboundary environmental consequences that emerge from reliance on fossil fuels. In the latter case, the common threat may set the stage for shared challenges in the

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China and the Energy Equation in Asia

need to diversify the energy mix, to shift to alternate energy supplies, and to improve energy efficiencies. Thus, the dilemma for any work focusing on China’s quest for energy security is to explain China’s behavior and motivations. The central premise for this book is that the way the energy security debate is defined by Chinese leaders (and other important actors)—in geopolitical, developmental, and environmental terms—and the nature of the domestic political context fundamentally shape what policy choices are made, as well as the prospects for cooperation, competition, and/or conflict over energy in Asia. The purpose of this study is threefold: 1) to identify the broad policy frames and interests that define China’s approach to energy security; 2) to explore the foreign policy and domestic contexts of its energy security policy; and 3) to explain what drives China’s quest for energy on the supply-and-demand side at home and abroad. Putting the China energy security debate into its international context is a useful first step to an understanding of how and why China approaches the energy security dilemma as it does. The Global Energy Context

Complicating the global energy equation is the reality that the world is running out of cheap, easily accessible oil at a fast pace. In terms of resource scarcity, Kenneth Deffeyes argues in Beyond Oil: The View from Hubbert’s Peak that oil production passed its peak in late 2005 and that, despite new discoveries, global production is on the decline.4 Royal Dutch Shell CEO Jeroen van der Veer noted in January 2008 that “[a]fter 2015, easily accessible supplies of oil and gas probably will no longer keep up with demand.” Without action now, he foresees a possible future in which states “scramble” for resources in a zero-sum game with clear winners and losers.5 According to David Howell and Cheryl Nakhle, oil is plentiful, but its cost, the risks of extraction and production, and its unreliability have increased over time, making its use problematic.6 The central point is that the growing demand for fossil fuels will exceed the readily available supply in the near future, and yet the world is forecast to still rely on fossil fuels for 85 percent of its primary energy needs through 2050. Two specific challenges, in particular, complicate a future that relies on fossil fuels. First, as noted, few new “easy” resources are left to exploit. Second, new investment is needed desperately to unlock resources in areas with geopolitical challenges, in remote areas, in deep offshore locations, and/or in nonconventional hydrocarbon resources

China’s Search for Energy Security 3

such as heavy oil or oil sands. This will be costly, and developing countries are most in need of investment. According to the International Energy Agency (IEA), a $20 trillion investment in energy infrastructure ($10 trillion in the power sector alone) is needed to meet the growing demand, but only half of that amount has been committed. Similarly, spending on clean energy including research, development, and deployment is well below other sectors.7 The looming demand growth in the rest of the developing world and the climate change crisis add a new impetus to look beyond oil. The IEA projects that based on 2007 energy use trends, global demand will increase by 50 percent by 2030, with 70 percent of that increase coming from energy demand in the developing world (30 percent from China alone). In turn, this increase will lead to a 55 percent increase in CO2 emissions.8 China’s growing energy demand fuels many people’s concerns over future energy security. China is now the second-largest energy consumer in the world and also the second-largest oil importer by volume after the United States. China accounts for 41 percent of the world’s growth in demand for oil—a trend that the U.S. Energy Information Administration (EIA) and others believe will continue into the near future. Although China and the United States both rely on fossil fuels and are projected to do so in the future, their specific energy mix is different. Figures 1.1 and 1.2 below compare the China and U.S. energy mix trends in 2005 and 2030. Based on IEA data, both will continue to rely substantially on fossil fuels through 2030. By most estimates, through 2030 China’s overall energy use mix will remain dominated by coal. Its oil use will increase to accommodate its growth in the transport sector and need for oil in industry. Although oil will represent only 20.1 percent of its primary energy mix, a majority of this will be imported as domestic sources dry up.9 As we will see later in this book, although China works to diversify its energy mix, the sheer volume of its demand and the domestic challenges it faces make the transition difficult. For example, China works to expand the use of natural gas in its energy mix to become less dependent on oil imports, but it must overcome barriers to using natural gas that include infrastructure and delivery of natural gas imports, which include the need to build natural gas pipelines and additional liquid natural gas (LNG) receiving terminals along the coast.10 Despite increasing use of nuclear power, hydropower, and renewable energy, these still will remain a small percentage of China’s energy mix by 2030. Coal remains China’s immediate energy future.

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China and the Energy Equation in Asia

Putting the Global and Chinese Energy Security Debates in Context The Case for Insecurity and Zero-Sum Analyses

Broadly speaking, there is concern that without a change in how energy is used globally a looming oil crisis will lead to major economic disruptions and the greater possibility of conflict over scarce resources. 11 Noted security analyst Michael Klare argues that the most likely cause of future wars is the demand for scarce resources by rapidly growing populations. He argues that finite resources, escalating demand, and the location of resources in areas known for their political instability combine as preconditions for conflict.12 This language of “resource wars” describes an overdependence on unstable foreign sources of vital or strategic resources and a threat of interruption of access to their supply.13 Much like the strategic minerals debate of the 1980s that emphasized problems of supply maintenance for vital resources, geopolitical vulnerability in these terms depends on the decline in domestic production for a critical resource needed for the economy or security systems that leads to growing import dependence. The concentration of the resource to one or a few limited suppliers— particularly in politically unstable areas or in unfriendly countries— exacerbates the problem and sense of insecurity.14 From a global threat perspective, the increased concentration of oil supplies in a few areas, primarily in the Middle East, North Africa, and Central Asia, gives some producing states a potential resource weapon over consumers. The fear is that with this kind of concentration, producers may follow an energy nationalist track and try to control world trade by restricting production or output, by increasing prices, or by routing supplies to friends while punishing adversaries. Frequent instability in the Middle East, which is estimated to hold 77 percent of the world’s proven oil reserves (dominated by three states—Saudi Arabia, Iran, and Iraq—that hold 56 percent of the total), is a cause of concern.15 In 2005 Arab countries were China's largest crude oil suppliers, with China importing nearly 44 percent of its total oil imports from the region.16 A second concern focuses on the sea-lanes of communication (SLOCs) or potential chokepoints such as the Strait of Hormuz leaving the Persian Gulf or the Strait of Malacca that separates the Indian Ocean and South China Sea (through which some 80 percent of China’s oil imports pass). These narrow corridors represent areas of concentrated shipping that are vulnerable to transport interruptions.17 China watches

China’s Search for Energy Security 7

the U.S. presence in the South China Sea with this concern in mind. 18 Some Chinese strategic thinkers see the American naval presence there as a threat to Chinese energy imports if the two nations come to blows. The primary concern is that energy producers will use their resources as a weapon and undermine the world energy market. In this way, Russia’s dominance over the oil, natural gas, and electricity sectors and the legacy of integrated supply and distribution infrastructures from the Soviet era allow it to use energy as a political weapon against countries such as the Ukraine and Belarus. This behavior makes Europe nervous about Russia’s reliability as a steady supplier of natural gas.19 However, as the strategic minerals debate illustrates, an energy producer’s success (or that of anyone with a strategic asset) is related to a number of economic and political factors—for example, its proportion of world exports; the output and reserves it holds; supply and demand elasticities; the political, economic, and ideological outlook of exporters; and the level of cohesion among other producers. In addition, the mineral’s importance, possibilities for substitution, and world consumption patterns must be taken into account. These factors give single countries and cartels such as OPEC only a limited ability to sustain low output and high prices over time.20 For Russia, the world economic crisis in fall 2008 that undermined its stock exchange raised serious questions about Russia’s ability to invest in its oil sector adequately without outside assistance. Given the vulnerabilities of supply and distribution channels and the level of dependence on foreign oil in countries such as China and the United States, securing their access to energy becomes a major foreign policy priority. China’s accelerating dependence can multiply its apprehensions about whether the supply is adequate and secure, which increases its desire to ensure a reliable and reasonably priced flow of oil.21 In this vein, Oystein Noreng argues that China’s mercantilist policies are changing the international oil and gas game.22 His greatest concern stems from the increase in China’s direct (owned) or indirect control of resources in countries of concern to the United States. Most traumatic from a U.S. foreign policy perspective has been China’s close trade relationships with Iran, Iraq before the 2003 invasion, and Sudan. 23 The fear is that as China deals with such pariah states it circumvents global energy markets. Hawks within the Department of Defense (DOD) who adopt the more hard-line realist viewpoint that China is the next most likely great power competitor challenging U.S. economic, military, and political interests in East Asia would see energy in these terms. The most recent Quadrennial Defense Review (QDR), published in February 2006, also

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China and the Energy Equation in Asia

expresses concern about China’s expanding military development. It identifies China as the most likely competitor for the United States, noting specifically that China fields “disruptive military technologies” that might “offset traditional U.S. military advantages.”24 According to analysts such as Erica Downs, many Chinese leaders interpret the signs of U.S. discomfort with China’s rise—through DOD reports, for example, and situations such as congressional opposition to a Chinese company buying U.S.-based Union Oil Company of California (Unocal)—as evidence that the U.S. is a primary threat to China’s energy security. China’s accelerating dependence multiplies its apprehensions and increases its desire to ensure reliable flows of reasonably priced oil. By this definition, China’s policy is a defensive response to minimize its vulnerability.25 The Case for Collaboration and International Coordination

The “anarchy” of the realist vision, however, does not refer to a lack of structure, just a lack of certainty. Many see how China increasingly fits itself into established patterns of energy trade and investment as evidence of a different behavior trend. For example, within the U.S. State Department and Department of Energy, those who work on energy policy acknowledge that while states are in competition with China for resources, they also share common interests because oil is a commodity that is traded on the open market, “and energy security is not defined by who owns the asset.” They argue that oil is supplied where the price environment is most profitable. Rather than emphasizing areas of potential conflict, they note the areas of cooperation in “energy efficiency, clean coal, nuclear, biofuels, … areas that we feel would be of benefit for the U.S. and China to expand our cooperation, which will help them diversify their energy mix, help them actually achieve a greater degree of energy security.” Ultimately, this broad approach will provide a variety of sources of energy that address issues of reliability and affordability critical to economic stability and energy security. 26 Jeroen van der Veer concludes that with greater planning, coalitions of states can use cross-border cooperation “to take on the challenges of economic development, energy security, and environmental pollution.” 27 Chinese officials state that China’s foreign policy rests on a concept of “peaceful rise/development,” in contrast to previous great powers that competed and played great power games leading to war. They argue that its development transcends the old industrialization model that made countries rivals for resources in bloody wars that allowed high consumption of energy and high pollution.28 In addition, they say that

China’s Search for Energy Security 9

China’s development has led to mutual benefits for its neighbors and built a win-win international system for all rather than realism’s zerosum world.29 As such, Chinese leaders argue that the power transition spurred by China’s ascent in East Asia will not be destabilizing or lead to a destructive great power war.30 In this way, China promotes itself as a responsible power promising peace, development, security, and cooperation and vowing to perform its responsibilities as a major country. This would include abiding by its principles but more overtly increasing its aid and setting an example on the international stage.31 President Hu Jintao describes the linked concepts of “harmonious world” and “harmonious society” as the comprehensive guiding principles for China’s domestic and external strategies. He places China in the center of efforts to transform the international system to establish a more open and fair multilateral trading system and to improve the international financial regime to support trade relations and an international environment conducive to economic growth.32 In the short- and mid-term, China’s leaders pay special attention to improving relations with the United States as well as its immediate neighbors. This twin focus is needed to nurture favorable external conditions for its domestic modernization needs. China’s leaders foster cooperative relations to keep stability despite perennial differences with the United States on, for example, trade deficits, human rights, and the Tibetan issue.33 Robert Sutter characterizes China’s policy as an attempt to help restrain U.S. hegemonism, to facilitate the move toward a multipolar world, and to foster stability for its continued peaceful development. Tensions with the U.S. must be managed if this is to occur. He argues that the Chinese see the increase in common challenges such as international terrorism, crime, and disease as a basis to build common interests and enlarge the foundation for cooperation in the world.34 From this perspective, states operate in a web of interdependence where rules and norms of behavior constrain their actions and shared interests are identified. Thus, broader conflict is not inevitable if a rising China can be peacefully integrated into the international system.35 From a complex interdependence view of international relations, one expects China to support the current interdependent economic structure and seek to avoid alienating economic partners because it is this system that spurs its economic development. Thus, China would work to avoid confrontation because its advantages are small in a world where modern economic power depends on technological innovation at least as much as acquiring resources.36

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Robert Keohane and Joseph Nye’s analysis of asymmetric interdependence may be used to explain how states can exploit their advantages in terms of the distribution of specific resources. In the energy sector, those who import will be more sensitive to possible supply disruptions. However, there exist asymmetries of vulnerability and different levels of dependency a state feels toward another. The ability of a state to adjust and insulate itself from the actions of another—in this case the actions that affect international energy supplies—will be mitigated by other factors such as trade position and technological advantage.37 Thus, economically powerful consumer states such as Japan can use that strength to grow steadily despite severe dependencies on energy imports. The globalized nature of the Asian market creates opportunities for China to use its diplomacy and trade advantages to leverage its partners and rivals. Avery Goldstein argues that China’s strategy has been to become indispensable to its neighbors by establishing various partnerships and to establish itself as a responsible international actor to undercut others’ suspicions. China’s rapid economic growth helps expand the development of the region as a whole. Because China needs to maintain its internal growth through international trade, it would be careful not to risk those ties. Theoretically, the deepening economic relationships among Asian states work to mitigate potential conflict, even in a resource-scarce environment.38 In this vein, Banning Garrett has coined the concept of “strategic interdependence” in which countries such as the U.S. and China face a strategic imperative to cooperate. Each has a critical mutual stake in the other’s energy security and the choice to decide how common problems are resolved—in this case developing a strategy to ensure secure energy supplies.39 Joshua Kurlantzick takes this argument a step further by noting that China’s diplomatic and economic tools of “soft power” promote a benign view of China that allows that country to push its hard goals, which include access to resources, and more generally, to get its way in foreign relations.40 The foreign direct investment (FDI) numbers alone illustrate the fast-paced growth in China and much of Asia (Table 1.1 below details inward FDI flows into Asia). Despite China’s best efforts and the efforts of its skeptics, however, perspectives on China’s intentions remain mixed. Recent polling data demonstrate that this mixed view of China’s intentions breaks down along interpretations of its military and economic intentions and capabilities, has varied over time, and varies by region.

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China and the Energy Equation in Asia

The Mixed Views of China in Asia and Beyond

Overall views of China’s intentions are largely positive across the last five years, but a closer look at the available polling data reveal mixed reviews depending on whether military or economic frames are primed. The key finding of a June 2008 Chicago Council of Global Affairs Poll included the negative perceptions of China’s growing power. Majorities or pluralities in every country surveyed—including Japan, South Korea, and the United States—were at least “somewhat worried” that China could become a military threat to their countries in the future. On the question as to whether China builds trust and cooperation among Asian countries, it received low ratings on a 0-10 scale from Americans (3.5), Japanese (4.6), and South Koreans (4.9).41 Polling data from the 2006 and 2007 Pew Global Attitudes Project conducted in China, India, Japan, Pakistan, Russia, and the United States illustrate the same concerns among their publics as to China’s growing militarization. By far, the Japanese had the greatest anxiety, with 93 percent seeing China’s growing military power as a bad thing. The Japanese were joined by 76 percent of Russians and 63 percent of Indians concerned about China’s growing military.42 In 2007, 70 percent of Russians, 59 percent of Indians, 89 percent of South Koreans, and 80 percent of Japanese registered the same concern. However, negative views were not universally held by other countries in the region. Majorities in Pakistan (57 percent), Malaysia (57 percent), and Bangladesh (51 percent) said that China’s stronger military was good for their countries.43 Regarding the importance of China’s economic growth, however, the world’s judgment has been generally positive. In 2007 majorities in 25 of the 46 countries surveyed outside China saw its economic growth as a boon to their own nations. Nearly all of China’s neighbors felt that what was good for China’s economy was good for their own. This was particularly true in Malaysia (84 percent), Bangladesh (78 percent), Indonesia (66 percent), and Pakistan (63 percent). In Russia and Japan more people believed that China’s development helps, rather than hurts, their nations by roughly two-to-one. In India, 48 percent saw China’s growing economy as a bad thing (versus 42 percent positive), representing a shift in opinion from 2005, when a 53 percent majority of Indians saw China’s economic growth as beneficial to their nation. In South Korea a 60 percent majority saw China’s economic growth as bad, in contrast to a 52 percent majority who had an overall favorable opinion of China. In Africa favorable evaluations of China’s economic

China’s Search for Energy Security 13

growth as good for their country are nearly universal—most dramatically in the Ivory Coast with 96 percent of respondents, 93 percent in Mali, and 91 percent in Kenya. Reactions also are positive in much of Latin America, including the vast majority in Chile (74 percent) and Venezuela (70 percent) and the balance of opinion in Peru, Bolivia, Brazil, and Argentina.44 Polling conducted by the British Broadcasting Corporation (BBC) and the Pew Global Attitudes Project in 2004 and 2005 presented positive numbers ranging between 45 percent and 48 percent for people who saw China’s influence as mainly positive, while negative numbers ran between 28 percent and 30 percent. However, among the twenty countries polled both years, the number of countries rating China mostly positively dropped, while those rating it negatively rose. Among its closest neighbors in Asia, the numbers dropped sharply, while African and Muslim states have consistently reported particularly high positive numbers.45 In Pew’s polling China got its highest ratings among Asian Muslim countries. Majorities in Malaysia (83 percent), Pakistan (79 percent), Bangladesh (74 percent), and Indonesia (65 percent) rated China positively.46 In the polling data, public perceptions of China do vary and shift based on whether its behavior is primed by a military or an economic focus (or interest) and based on where in the world you look. Interestingly, views of China’s intentions have shifted most dramatically among its close neighbors but remain largely positive in the Muslim world. Taking a Foreign Policy Analysis Perspective to Explain the Roots of China’s Energy Policy

The mixed reviews of the consequences of China’s rising military and economic power, in part, mirror the distinctions raised in the snapshot provided by the realist and neoliberal debate over China’s intentions. While both present an unpredictable energy future, realism’s security threat-focus and neoliberalism/complex interdependence’s opportunityfocus lead to different assessments for the chances for conflict and/or cooperation in Asia. This poses a dilemma for analyses of China’s energy security approach—for example, how to reconcile these two competing perspectives of the international system.47 Similarly, inside China there are competing interpretations of China’s policy priorities and how to achieve them. The central purpose of this project is to shed light on that inner debate and process.48

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Classic voices from the foreign policy analysis perspective, such as Harold and Margaret Sprout, illustrate that the underlying and immediate impact of the strategic environment on particular policies depends on how that environment is perceived by leaders and other important policymakers. They distinguish the “psychological environment,” which affects human perceptions of the environment, from the “objective environment,” or real capabilities, which affects the ability of states to respond effectively. As they explain it, systemic factors such as the nature of the international system and complex interdependence influence or condition leaders’ responses because they affect judgments, preferences, attitudes, and choices.49 This point has been demonstrated repeatedly in work in foreign policy analysis and political psychology, including Robert Jervis’s classic on perceptions and misperceptions, that is, how leaders see the world and the choices they make.50 Given the role perceptions play in shaping policy decisions, it becomes critical to understand that how we define a problem shapes potential policy choices.51 Put simply, the mind has a tendency to simplify causal inferences, to categorize and stereotype, and to use historical analogies to explain the complex world.52 Within foreign policy analysis, the bureaucratic politics perspective argues that multiple interests can be at play, and multiple stakeholders often weigh in on a country’s foreign policy decisions. These circumstances illustrate a situation where different definitions of the “national interest” can evolve depending on who is involved in the policymaking process.53 This means that in situations where political authority is dispersed, common in modern bureaucratic states, we need to understand the nature of the various stakeholders’ beliefs, attributions, and interests as well as the political context shaping how the ensuing political debate proceeds.54 In both political psychology and constructivist contexts, through the struggle over the framing (or definition) of policy problems, alternate choices may result.55 From this point of view, digging deeper into China’s energy interests and policymaking processes becomes the missing piece of the puzzle to address. Because energy crosses security, development, and environmental policy lines, among others, it can be influenced by multiple needs and interests. This study proceeds from the bureaucratic politics assumption that a healthy competition over interests and policy options exists within countries. In the China context, Kenneth Lieberthal and David Lampton argue that a matrix of relevant bureaucracies and interests produces policy decisions that can shift based on the nature of the issue under discussion and the agencies involved.56 The next chapter will look into these competing interests further.

China’s Search for Energy Security 15

Organization of the Book

This work focuses on a broad definition of China’s energy security approach in order to determine more about China’s decision-making process. An examination of China’s policy—in its domestic context and in the context of its neighbors and the United States—will aid us in exploring important international relations’ questions and possibilities for cooperation and conflict in the Asia-Pacific region. The following questions organize the analysis in the remainder of the book: 1. What foreign policy paradigm, if any, does China follow? What explains its energy policy approach? 2. What external and internal factors most shape China’s policy choices in general and specifically with its neighbors? What can foreign policy analysis approaches tell us about the making of Chinese foreign policy? 3. What policy trade-offs does it face in the energy security debate? How does the domestic need for growth and environmental security (particularly climate security) shape China’s foreign policy responses? 4. What are the implications of China’s quest for energy security for Asia, U.S. foreign policy, and the future of global energy security? The broad outlines of China’s “go forth” energy policy approach as well as the systematic, domestic, and policymaking levels that shapes its energy policy choices are discussed in chapter 2. Chapters 3, 4, and 5 focus specifically on China’s “go forth” policies across Asia. Chapter 3 deals with the importance of Central Asia in China’s future energy strategy and the prospects for and challenges to the creation of an energy Silk Road. Chapter 4 focuses on Sino-Japanese relations and Northeast Asia, more broadly, in the context of competition over energy resources from Russia, as well as areas of cooperation in technology and energy conservation. Chapter 5 examines China’s relationship with its Southeast Asian neighbors, particularly in the Association of Southeast Asian Nations (ASEAN), encompassing disputes in the South China Sea and imports through the Strait of Malacca, as well growing economic interdependence and ties to regional organizations.57 Chapter 6 focuses on China’s greening development path, its demand-side energy policies, and the challenge that climate change poses to its energy security. The final chapter explores some implications for China’s quest for energy

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China and the Energy Equation in Asia

security for its policymakers as well as the United States, Asia, and the globe as a whole in terms of its supply-side and demand-side policies. The broad energy equation discussed throughout this book moves us beyond the narrow geopolitical focus on energy security (that is, the security of the oil supply), and specifically the China “threat” scenario, to explore the complexities of the broader energy security equation and strategies to manage its emerging challenges. This study recognizes the geopolitical challenges that states face but also incorporates a perspective of shared vulnerabilities and possible shared interests that can promote cooperation. Such a definition of energy security evaluates a country’s access to other energy sources such as natural gas, coal, and renewable energy (each with different geopolitical and social calculations), as well as the linked sustainable development, environmental, and climate questions.58 As we will see, China’s energy security challenges are directly linked to its economic health, the need for continued sustainable development, and the vagaries of its internal policymaking process.

1 Noreng, “The Rise of Asia and the Restructuring of International Oil Trading,” p. 35. By this analysis, resource dependence makes a country highly vulnerable to power projection by competing states. 2 Klare, Blood and Oil; Klare, Resource Wars. 3 Ebel, China’s Energy Future. 4 Deffeyes, Beyond Oil; Deffeyes, Hubbert’s Peak; Goodstein, Out of Gas; Mitchell, Morita, Selley, and Stern, The New Economy of Oil. 5 Van der Veer, “Two Energy Futures.” 6 Howell and Nakhle, Out of the Energy Labyrinth. 7 IEA, Resources to Reserve, pp. 10-15. 8 Lauzon, Preng, Sutton, and Pavlovic, 2007 Global Energy Survey, pp. 36; IEA, “Searching for Optimism in IEA’s Latest Energy Projection”; IEA, World Energy Outlook 2006. 9 IEA, World Energy Outlook 2007. 10 Downs, The Brookings Foreign Policy Studies Energy Security Series: China, p. 12. 11 See Roberts, The End of Oil, which analyzes the economic, political, and social costs of fossil fuels that will be burned through in the next thirty years. 12 Klare, Resource Wars; Klare, Rising Powers. 13 Noreng, “The Rise of Asia,” p. 35. 14 See, for example, Ra’anan and Perry, eds., Strategic Minerals and International Security, particularly essays by R. Daniel McMichael, Paul Kreuger, and William Schneider, Jr., who note that the vitality of the U.S. industrial infrastructure, defense, and the overall economy depend on the availability of energy and other important commodities. 15 OPEC, “OPEC Share of World Oil Reserves (2006).”

China’s Search for Energy Security 17

16 “China, Arab States Hold First Oil Meeting.” In 2003 China got 50 percent of its crude from the Middle East, 22 percent from Asian sources, and 18 percent from African sources. 17 See Beng, “China Mulls Oil Pipeline in Myanmar, Thailand.” 18 For similar reasons, U.S. President Ronald Reagan reflagged oil tankers in the Persian Gulf in the 1980s to deter Iran, and other powers, from trying to jeopardize oil shipping lanes. More broadly, some contend that American interests in the Middle East—and the U.S. motivation for the 2003 invasion of Iraq—are due to its interest in securing steady access to that region’s oil. See Singer, “Oil and Security,” which argues that the high costs of the Iraqi occupation illustrate why U.S. intervention in conflicts in the Middle East are not a sensible substitute for an energy policy. Prominently, Alan Greenspan argues in his recent memoir Irrational Exuberance that securing Iraq’s oil reserves influenced the war policy of the George W. Bush administration. Ninkovich, The Wilsonian Century, notes that America’s military policy has long supported its commercial interests. 19 See Stulberg, Well-Oiled Diplomacy. 20 See Anderson, Strategic Minerals, pp. 113-120. 21 Xu, “Theoretical Reflections,” pp. 44-45. 22 Noreng, “The Rise of Asia,” p. 35. 23 Calder, “Coping with Energy Insecurity.” 24 DOD, Quadrennial Defense Review Report, p. 29; Donnelly, “2006 Quadrennial Defense Review.” A wide debate over China’s intentions and capabilities (emphasizing its potential as a source of stability or instability in Asia and the world) pits the pessimists who interpret China’s rise as a threat against the optimists who view China as a responsible power that sees its best interest in working within the international system. In the U.S. context, pessimists such as Richard Bernstein, Ross Munro, Bill Gertz, and Constantine Menges, among others, emphasize the current and general threat China represents for American national interests (and Western interests more generally), noting that a zero-sum, self-help world requires constant vigilance for survival. See Bernstein and Munro, “The Coming Conflict with America”; Bernstein and Munro, The Coming Conflict with China; Gertz, China Threat; and Menges, China. To others, such as Andrew Nathan, Robert Ross, David Shambaugh, and David Lampton conflict is not inevitable if a rising China can be peacefully integrated into the international system. See Nathan and Ross, The Great Wall and the Empty Fortress; Shambaugh, “Containment or Engagement of China”; Lampton, “Paradigm Lost.” 25 Downs, China’s Quest for Energy Security; Calder, “Coping with Energy Insecurity,” pp. 1-2; Yan, “Why China ‘Goes Global’ and Its Implications,” p. 5. 26 Harbert, “U.S.-China Energy Policy Dialogue.” This sentiment was repeated by a host of other U.S. government officials in conversations with the author. 27 Van der Veer, “Two Energy Futures.” 28 China traces its path of peaceful development to Mao Zedong’s Five Principles of Peaceful Co-existence, which argue that China follows the principles of mutual respect for sovereignty and territorial integrity, peaceful coexistence, equality and mutual benefit, as well as non-aggression and non-

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China and the Energy Equation in Asia

interference in each other's internal affairs in dealing with international relations with all other states. See Zheng, “China’s Peaceful Rise to Great Power Status”; and “Foreign Affairs at the Founding of New China.” See also Gill, Rising Star, which argues that China’s new security diplomacy includes a more flexible interpretation of the principles of sovereignty and noninterference. 29 See Jintao, “China’s Development an Opportunity for Asia.” See also Zheng, “New Path for China’s Peaceful Rise”; Zheng, “China’s Peaceful Rise to Great Power Status”; Goldstein, Rising to the Challenge, pp. 192-193. 30 Power transition theorists themselves acknowledge that while redistribution of capabilities may exacerbate conflicts of interest and intense strategic competition is likely, it does not necessarily follow that U.S.-China conflict will be the inevitable outcome. See Ross and Feng, China’s Ascent. 31 Yu, "Harmonious World." 32 Hu, “Build towards a Harmonious World of Lasting Peace and Common Prosperity.” See also Information Office of the State Council, PRC, China’s National Defense in 2006, pp. 34-35; Information Office of the State Council, PRC, China’s Peaceful Development Road; and Yu, “Harmonious World.” 33 Yang, “China's Foreign Policy under New Leadership.” 34 Sutter, “Why Rising China Can’t Dominate Asia.” 35 Nathan and Ross, The Great Wall; Shambaugh, “Containment or Engagement of China,” pp. 185-86; Lampton, “Paradigm Lost,” pp. 67-74. 36 Keohane and Nye, Power and Interdependence. 37 Ibid. For a comprehensive discussion of how technology can transform the international system, see Herrera, Technology and International Transformation. 38 Goldstein, Rising to the Challenge, pp. 15-17. 39 Garrett, “Compelled to Cooperate,” p. 7. 40 Kurlantzick, Charm Offensive. 41 Chicago Council on Global Affairs, Soft Power in Asia. 42 Pew Global Attitudes Project, “Publics of Asian Powers Hold Negative Views of One Another.” 43 Pew Global Attitudes Project, “Global Unease with Major World Powers.” 44 World Public Opinion, “Global Poll Finds Iran Viewed Negatively.” 45 Ibid. Among its closest neighbors, South Korea registered a 49 percent positive view in 2005 versus 58 percent in 2004; India, 66 percent versus 44 percent; the Philippines, 70 percent versus 54 percent; Australia, 56 percent versus 43 percent; Indonesia, 68 percent versus 60 percent; and Russia, 42 percent versus 32 percent. For African and Muslim states, the BBC poll posted numbers ranging from 73 percent positive in Senegal to 68 percent in Nigeria, 66 percent in Iran, 59 percent in the Democratic Republic of the Congo, 59 percent in Kenya, 58 percent in Afghanistan, 55 percent in Iraq, 54 percent in Saudi Arabia, and 53 percent in Tanzania. 46 Pew Global Attitudes Project, “Global Unease with Major World Powers.” The trend for the United States is disturbing. Favorable opinion of the United States has dropped in East Asia since the early 2000s, and in some areas such as South Korea, China has been seen more positively than the United States. In the BBC’s poll released in early 2006, the U.S. was viewed negatively by 47 percent and favorably by 40 percent. The Philippines polled most

China’s Search for Energy Security 19

favorable (85 percent), but this was balanced by unfavorable ratings by Indonesia (47 percent), Russia (52 percent), South Korea (52 percent), China (63 percent), and Australia (60 percent). See Pew Global Attitudes Project, “Dataset Download.” 47 Goldstein, Rising to the Challenge, pp. 10-11; Shambaugh, “Containment or Engagement of China,” pp. 185-186. 48 Xu, “Theoretical Reflections,” pp. 44-45. 49 Sprout and Sprout, “The Ecological Perspective on Human Affairs,” p. 11. 50 See Jervis, Perception and Misperception in International Politics. For work on enemy images, see Shimko, Metaphors and Foreign Policy Decision Making, pp. 657-673. For work focusing on belief systems and foreign policy choice, see, for example, Holsti, “The Operational Code”; Walker, “The Motivational Foundations of Political Belief Systems”; and Walker and Schafer, “The Political Universe of Lyndon B. Johnson and His Advisors.” 51 Garrison, Making China Policy. For example, during the Cold War the U.S. and China shared an interest (or a “strategic imperative”) in overlooking their differences in order to counter the shared threat posed by the Soviet Union. Rapprochement on both sides was possible in light of the shared perception of the Soviet threat and the mutual Sino-American interest in countering Soviet plans for expansion. However, in light of the Tiananmen Square massacre, many in the U.S. reassessed China’s role. After 1989, as the pressing concern of a common enemy declined, differences resurfaced and weakened the SinoAmerican relationship. In the U.S. view, China was transformed overnight from a helpful strategic partner that was gradually liberalizing, to an old-fashioned brutal authoritarian state. 52 Rosati, “The Power of Human Cognition in the Study of World Politics”; Fiske and Taylor, Social Cognition. 53 See McSweeney, Security, Identity, and Interests. 54 Beasley, “Collective Interpretations,” pp. 83-86. 55 This study argues that the way a problem is defined simplifies the problem under discussion, which lends coherence to the problem (by shaping attitudes and cognitions), organizes the presentation of facts, frames alternatives to policies, and ultimately sets the parameters of policy choices and processes. See Garrison, Making China Policy, pp. 13-18. 56 See Lieberthal and Lampton, eds., Bureaucracy, Politics, and Decision Making in Post Mao China. 57 IEA, China’s Worldwide Quest for Energy Security, pp. 62-68. 58 For a discussion noting areas of possible cooperation on energy between China and the United States, see a joint report by the National Research Council, China Academy of Sciences, and China Academy of Engineering, Cooperation in the Energy Futures of China and the United States.

2 Making China’s Energy Policy Deng Xiaoping’s economic reforms have transformed a former planned economy into an increasingly open commercial power, one more open to the international economic system while persistently keeping a tight rein on the political system. Underlying China’s new confidence and activist foreign policy agenda has been its dramatic economic gains that provide it with resources to fulfill its foreign policy goals. Economically, China has the fourth-largest economy in the world behind the United States, Japan, and Germany, and with its export-led growth model, it relies on trade to maintain and increase its wealth. This makes China the world’s factory but simultaneously dependent on exports, foreign direct investment (FDI), and commodity imports for its wealth. In practice, this means that China’s overarching imperative to maintain steady growth at home drives its foreign policy behavior.1 China’s rapid economic growth has produced a new confidence in its foreign policy objectives that represents a profound change from its foreign policy of the recent past. From a policy perception influenced by a victim mentality due to humiliations at the hands of foreigners and a country torn apart by factional fighting from the Opium Wars through the early part of the 20th century, China has emerged seeking international respect, to restore its greatness, and promoting its own vision of the international system.2 China today is more confident, more active, and has taken greater initiative in foreign policy.3 Xu Jian argues that by “grasping the opportunity of economic globalization to achieve its fast economic growth, China has shouldered its responsibility as an economic power and served as one of the main locomotives for global economic growth.”4 However, in today’s volatile and recent high-cost energy environment, even China faces a growing sense of vulnerability vis-àvis access to cheap energy sources necessary for its continued growth. Regarding oil dependency, its import of 40+ percent of its oil (soon to rise to 50 percent) means China must take action to diversify its energy sources at home and abroad and work to curb the growth of its consumption.5 The central drivers for China’s acceleration in energy demand are its increasing population, growth in its industry, the building

21

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China and the Energy Equation in Asia

and manufacturing sectors, and the greater wealth in a rising middle class that is driven by globalized markets. Excessive demand leading to recurring power shortages has threatened China’s sustained economic growth and sense of confidence.6 Susan Shirk, former deputy assistant secretary of state in the Clinton administration (1997-2000) responsible for China policy, argues that China is “strong abroad, but fragile at home.” She notes the paradox that although China is simultaneously stronger economically and more secure than in the past, China’s leaders are fundamentally insecure and fear domestic challenges to their rule. By implication, insecure leaders may respond to threats and crises by fighting to stay in power.7 In light of their insecurity, maintaining economic growth has become the mantra to promote stability at home.8 It has become an important basis for the legitimacy of the Chinese Communist Party (CCP). The current push in China to take energy security seriously was spurred by a domestic energy crisis in 2003-2004 that threatened its rapid growth path. Widespread electricity shortages across the country— including blackouts in 24 of China’s 31 provinces—led to a 15 percent spike in oil demand to 850,000 barrels per day (bpd) fueled by demand for diesel for power generation. This crisis demonstrated clearly China’s import dependence and growing vulnerability. In light of the peak, or near peak, decline of its own energy production capacity (and ever increasing demand), energy self-sufficiency is no longer an option for China. Newly developed fields in western China and offshore are expected to only slightly offset production declines in its largest fields in the northeast, including Daqing.9 In response, the Chinese government has put its supply-side energy policy front and center in its foreign policy efforts. China’s energy policy prioritizes three areas: 1) diversification of energy sources and imports; 2) development of indigenous oil and gas reserves and use of domestic coal; and 3) encouraging energy conservation and efficiency. This chapter will explore the growing domestic energy challenge that China faces and the energy bureaucracy that has evolved to deal with this challenge. A central focus is on how its decentralized policymaking process has led to a fragmented energy policy. Growing Challenges to China’s Development

Access to cheap and reliable energy has sustained China’s high growth rate thus far with a world-leading average growth level of 9.6 percent over the last twenty-five years.10 However, sustaining economic growth at current levels depends on access to reliable and cheap energy.

Making China’s Energy Policy 23

Although China’s development accomplishments are impressive, it faces recurring challenges due to its goal to pull its population out of poverty. Its 1.3 billion population—forecast to reach 1.5 billion by 2030—adds great pressure to its development efforts. Currently, China’s economy is just one-seventh the size of the United States economy and one-third that of Japan, and in per capita economic terms, it ranks one-hundredth in the world. Chinese officials emphasize that not until 2050 will China be called a modernized, medium-level developed country.11 A 2007 report in the Financial Times by former U.S. Treasury official Albert Keidel argues that China’s economy is 40 percent smaller than previously reported using purchasing power parity (PPP) data, which explains why the government focuses domestically on a growthfirst model that includes pollution control, public investment, and poverty reduction. He contends that 300 million Chinese survive on less than one dollar per day.12 This means that although China has grown, it is still a developing country and, with accompanying social problems, must overcome obstacles for its future development.13 These are ongoing challenges to China due to the structure of its developing economy. This makes its energy use more intensive and future demand insatiable because of its increasing population, growing per capita income, rapid industrialization, and growing urbanization.14 In social and environmental terms, the new building boom and rising car culture that came with China’s growth have led to an environmental dark side. China now boasts sixteen of the twenty most polluted cities in the world, and these pollution pressures are linked to growing health problems that affect worker productivity. Chinese officials conservatively estimate that environmental damage cost the country around 10 percent of its gross domestic product (GDP) in 2006.15 Wang Jinnan from the Chinese Academy for Environmental Planning argues that China’s economic growth, when adjusted for pollution, is around 6 percent, three points lower than the official number reported.16 China’s greatest problems include air and water pollution, and by many estimates it surpassed the United States as the leading emitter of greenhouse gases (GHGs) in 2007. China’s leaders recognize that its rapidly increasing domestic energy consumption threatens its future sustainable development. From 2000 to 2005 China’s consumption rose by 60 percent to account for nearly half the world’s growth in energy consumption. In that same time period it was responsible for a quarter of the growth in world oil demand, although it accounted for less than 8 percent of overall global consumption. Its demand doubled from 1995 to 2005 to 6.6 million bpd,

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China and the Energy Equation in Asia

and China’s demand is expected to continue to increase through 2020 based on estimates ranging from 10 million to 13.6 million bpd.17 China has some tough choices to make in reconciling its long-term development goals with growing energy-use pressures and with environmental concerns. It is clear that through the 1990s raising economic standards for its people came first and addressing environment problems, second. However, growing political problems and an international context that incentivizes environmental legislation have changed the debate within China. On the development side, China openly asserts its priority and sovereign right to develop. However, involvement in various international environmental negotiations since the 1990s gradually has moderated its development stance. As Elizabeth Economy notes, at the 1992 UN Conference on the Environment and Development (UNCED), China prioritized development goals over environmental protection but engaged in the debate and began to accept that growth comes with costs. More and more Beijing must confront the tension between continued economic growth and the growing negative social consequences that come with it. Tensions between high GDP growth and the need to upgrade technology and increase job opportunities, the need to balance development more evenly across the country, and additional challenges to narrow the gap between rich and poor challenge China’s economic vitality.18 In addition, opening markets that attract more foreign investment challenges the competitiveness of indigenous enterprises, which challenges social stability.19 Thus, competition between the old and new development models still plays out in China’s energy approach. Since the presidency of Hu Jintao, at least rhetorically, China has adopted a sustainable development perspective that acknowledges that trade-offs come with unfettered growth. The president’s embrace of sustainable development reshapes the debate to acknowledge that there have been costs with China’s development. The president contends that serious environmental problems have been caused by “a wrong view of development” that takes pure GDP growth as the yardstick for success. Acknowledging the dilemma in 2007, Premier Wen Jiabao presented a “scientific development” concept that defined the task as “a mission in the building of a resource conserving and environmentally friendly society, it is a topic affecting the overall situation of sustainable social and economic development, it is a test of the Government's ability to govern and the extent of public trust in it, and it is a responsibility to the international community which China must shoulder.”20 At the top, party and central leaders use statements such as this to signal their policy priorities and to try to build consensus around these goals.

Making China’s Energy Policy 25

However, given the complex nature of Chinese society, these are only words if all the stakeholders are not on board. A closer look at China’s energy security debate illustrates how difficult it is to build consensus behind a single definition of sustainable development or energy security among the diverse set of stakeholders. Under the broad rubric of sustainable development, complex motivations and bureaucratic politics have led to a fragmented energy policy within China. Especially when important trade-offs among competing interests exist, the possibility for continued conflict, at worst, or compromise, at best, rather than a more optimal choice, is more likely. China’s Evolving Policymaking Apparatus

An unanticipated consequence of Deng Xiaoping’s reforms of the 1980s has been the ongoing fragmentation in policymaking that corresponds to his push for decentralization in authority in China’s central government, including in the energy sector. Since the 1980s several government ministries have been eliminated and transformed into state-owned enterprises (SOEs) that serve many of the administrative and policy functions of the former government ministries. As authority within the central government fragmented, the provinces also gained greater authority and became directly responsible for maintaining economic growth. Kenneth Lieberthal and David Lampton label this matrix of competing bureaucracies and the growing influence of the provinces “fragmented authoritarianism.”21 In this system no single leader dominates policymaking, but key bureaucracies gain authority to coordinate foreign-policy responses. Some coherence is gained through the formation of leading small groups (LSGs) at the state council and politburo level that develop in order to provide better policy coordination of policy goals across bureaucracies. Such coordinating bodies assume a greater role because of the diverse domestic and foreign aspects of many policy issues— energy among them—where it is difficult to reconcile competing interests. Through meetings and by generating official documents, these groups attempt to build policy consensus.22 Because leaders at the politburo and state council levels, and even within the leading groups, generally set only key strategic guidelines or long-term policy goals, latitude is left tactically for agencies to make specific policy choices and plans to implement policy goals. In this context, there are competing stakeholders with vested interests ready to play bureaucratic politics. As such, China’s energy policy has resulted from balancing interests and

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China and the Energy Equation in Asia

bargaining among a number of stakeholders. For some, energy is a development concern; for others, environmental concerns are triggered; and for others still, access to technology and sovereignty issues emerge. Each perspective carries with it different policy prescriptions. Historically, the Ministry of Foreign Affairs (MFA) was at the center of Chinese policymaking and led through the Central Foreign Affairs LSG. However, with Deng’s reforms, foreign economic policy made the economic and trade ministries important players. Specifically, the Ministry of Commerce (MOFCOM), formerly the Ministry of Foreign Trade and Economic Cooperation (MOFTEC), as well as the Ministry of Finance, the State Economic and Trade Commission, and the People’s Bank of China, among others, became central organs to coordinate and implement foreign trade and economic aid policies.23 In the energy policy game, these and a number of other bureaucracies have a say in setting the policy agenda. Those in central positions of power with sufficient personnel are in the best position to be influential. A broad range of bureaucracies has a say in the energy-environmental puzzle. A sample includes the state planning agency, or the National Development and Reform Commission (NDRC) that focuses on broad development goals (and issues such as energy intensity and conservation); MOFCOM, which champions economic and trade issues; the MFA, which advocates sovereignty over natural resources (as well as diplomatic processes); the Ministry of Finance, which sets fines; and the Ministry of Environmental Protection (MEP), formerly the State Environmental Protection Agency, or SEPA, which holds regulatory powers in the environment.24 With these players the energy policy bureaucracy remains fragmented to this day. Deng Xiaoping’s Early Efforts to Coordinate Energy Policy

From the 1980s forward China’s government has tried to better coordinate energy policy across its diverse bureaucracy. Acute energy shortages in the early 1980s led to two attempts to improve energy policy coordination and implementation. China created the State Energy Commission (SEC) across 1980-1982 and subsequently in 1988 the Ministry of Energy (MOE). The new MOE consolidated the administrative functions of a number of ministries, including the Ministry of Nuclear Industry and the Ministry of Water Resources. The MOE failed, in part, because its authority overlapped with the State Development and Planning Commission (today the National Development and Reform Commission, or NDRC) and the state-owned energy companies that took over the management and production

Making China’s Energy Policy 27

functions of the previous industrial ministries. Both the SEC and the MOE were unable to overcome the vested interests of the other key energy stakeholders. The SEC never had a clear mandate, control over funds to shape development of the energy sector, or sufficient authority to be successful. Although supraministerial, it had no coercive power over the powerful ministries of petroleum, coal, and electric power that were not formally subordinate to them. The MOE was abolished in 1993 by those advocating that market forces should play a larger role in the energy sector. The SOEs created in this time period were and remain a central barrier to policymaking reorganization. Because they have maintained independent bases of power and profitability, they have great influence in China’s energy sector and energy policymaking. In the oil sector, China National Offshore Oil Corporation (CNOOC), founded in 1982, controls most of China’s offshore oil business. It works with foreign firms to attract foreign investment into exploration and development in China’s offshore areas. The China Petrochemical Corporation (Sinopec), founded in 1983, is responsible for refining and marketing. China National Petroleum Corporation (CNPC), created in 1988, explores and produces in onshore and shallow offshore areas. The government owns 80 to 90 percent of the oil companies and 100 percent of their parent companies with the State-Owned Assets Supervision and Administration Commission (SASAC), the sitting government shareholder in these companies. Further, SASAC plays a central role in the state council decisions as to who manages the national oil companies (NOCs) and weighs in on all management personnel decisions. Company executives hold ministerial rank in the government and usually have held previous high government positions. The government provides the companies with operating guidelines and works with them to ensure a consistent supply of oil for the country. In return, these companies have enjoyed monopoly powers over many business areas (such as the refining, wholesale oil, retail stations, and oil trade areas).25 Recent Efforts to Coordinate Energy Policy

In response to energy shortages and blackouts across China in 2003, China again attempted to reorganize its energy bureaucracy. It established a new Energy Bureau under the auspices of the NDRC to address future problems. Since this reorganization, the NDRC has become the central player in energy policymaking. It is China’s lead in bilateral energy dialogues such as that with the United States; is the lead in the 5-Party Energy Talks involving Japan, the U.S., South Korea, and

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China and the Energy Equation in Asia

India; and sits at the table with the MFA in climate-change negotiations.26 Officials in the NDRC Energy Bureau, however, faced the same difficulties as previous energy agencies had because they lacked the authority to coordinate policy among various stakeholders. In this instance, the administrative level of the Energy Bureau was lower than the ministry or vice-ministry level agencies and state-owned enterprises, such as Sinopec, that they tried to regulate.27 In 2005 the government created the National Energy Leading Group (NELG) under Premier Wen Jiabao and a state energy office under the state council to centralize energy policymaking even more. The goal was to elevate energy decisions to better manage the energy industry with the NDRC acting as the office director. A climate change leading group, also under Wen Jiabao, was created in July 2007 for similar reasons. The central mission of both groups was to formulate the national response to energy or climate change problems and specifically to “lay out” unified arrangements to respond. Such leading groups are organized to coordinate the resolution of major problems, build consensus, and organize the implementation of state council policy.28 Creation of these leading groups signaled the failure of the previous bureaucracy to address China’s needs but also the growing importance of energy security despite competing interests. Even with the NDRC lead, however, many administrative functions were still handled by a variety of ministries, leading to a lack of planning for energy exploration, consumption, savings, and reserves. Thus coordination efforts faced their own bureaucratic resistance from influential stakeholders, such as the various energy and foreign policy ministries. The NDRC was left in a weak position vis-à-vis the energy industry and other bureaucracies. The Energy Bureau under the NDRC was crippled by administrative power scattered across different government organs, including the State Electricity Regulatory Commission, the State Administration of Coalmine Safety, the Ministry of Water Resources, the Ministry of Land and Resources, and State Grid Corporation of China, among others, and the oil companies (such as CNPC and Sinopec), power, and coal companies. Exacerbating this situation, the NDRC itself is fractured into multiple departments with different organizational cultures and authority.29 Discussions in 2007 surrounding the draft of China’s first comprehensive energy law led to increasing voices to reestablish a Ministry of Energy to address overlaps in energy administration. The law’s purpose is to standardize supervision over all aspects of China’s energy policy and programs, including exploration, efficiency, security,

Making China’s Energy Policy 29

and emergency responses as well as international cooperation. Creation of a new ministry came to be seen as a way to create a uniform body for macrocontrol and supervision.30 Wang Weicheng, a member of the National People’s Congress (NPC’s) Environmental and Resources Protection Committee, argues that the NELG organization and decentralized systems “scattered administrative pattern made it nearly impossible to plan energy strategies and failed to meet the demands for sustainable economic growth.” Zhao Xiaohui, with the Ministry of Information Industry, adds that an energy ministry is needed “to facilitate asset restructuring and acquisition between enterprises, look for global cooperation for oil and gas exploration and stipulate related policies.”31 In March 2008 Wang submitted a proposal (for the third time) to the NPC to set up a new energy ministry. The new effort at integration evolved into an effort to form a highlevel consultation and coordination commission, the National Energy Commission (NEC), to report to the NDRC. The NEC would become responsible for drafting an energy development strategy, would consider energy security and development issues, and would monitor implementation. One change is that the NEC has ministerial rank and is somewhat separate from the National Energy Administration (NEA), which replaced the energy bureau in the NDRC and consolidated other functions. The NEA was formed under the NDRC to be the standing body to do the commission’s day-to-day work, including setting policies and standards, developing energy industry programs, and promoting new and alternative energy and conservation. The NEA integrates the NDRC’s energy functions, specifically its energy offices, the office of the NELG, and the nuclear power administration of the Commission of Science, Technology and Industry for National Defense, and promotes energy development and conservation. Its mandate is to manage China’s energy industries, draft energy plans and policies, negotiate with international energy agencies, and approve foreign energy investments. However, without accepted lines of authority and resources, the new NEC will follow the 1993 fate of the preceding ministry. At the time of reorganization experts acknowledged that it would succeed only by overcoming the parochial interests of powerful ministries who want to keep control. This new arrangement still struggles to fulfill its mandate because it does not have the tools to address the challenges. First, as of fall 2008 the NEC remained unformed, making it an unfinished experiment in creating an authoritative department responsible for enacting a uniform energy strategy.32 As such, no high-level coordinating body exists to shape broad energy policy.

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China and the Energy Equation in Asia

Second, the NEA has not been given sufficient authority to coordinate the interests of the ministries, commissions, and state-owned companies. This is exacerbated by the perception that the vice chairman of the NDRC, Zhang Buobao, who heads the NEA, is a creature of the NDRC. The administration’s small staff of 112 people makes it unlikely that energy governance will be improved. Further, the NDRC, itself, remains important because it still approves major projects and controls the important pricing bureau (it is generally acknowledged that power is rooted in who controls pricing). Erica Downs argues that bureaucratic politics is obvious in the failed reorganization of the energy apparatus. The NDRC and SOEs opposed establishing a ministry, and so the NEC became the compromise. If a new ministry had formed, it would have deprived the NDRC of a large piece of its portfolio and tools of macrocontrol. The SOEs opposed the ministry’s formation because they saw it as limiting their direct access to China’s top leaders with a new layer of bureaucracy.33 The restructuring was controversial and failed because of competing interests. Although the NDRC remains the most important single government entity, authority remains fractured within the NDRC, and no single unit has the authority to coordinate energy policy. Implementation is hindered further by laws that do not specify who is responsible for implementation and by SOEs that remain active in policymaking. The influence of the SOEs will remain strong because the top executives are members of the Central Committee of the CCP. As Figure 2.1 below illustrates, the energy policy game involves a plethora of stakeholders and potential influential actors. This look at China’s energy policymaking apparatus illustrates that even with the reshuffle, energy policymaking is likely to remain a collage of various policy pieces rather than a coherent strategy. This was true historically, and the experts agree that it is true with the latest reshuffle. Powerful ministries with parochial interests fight the changes, despite the national security implications to development. There is tension between state dominance in strategic sectors and the need to support globally competitive corporate actors in a market setting. 34 Domestic political factors, specifically powerful SOEs and powerful provincial and local leaders, provide resistance to central government energy and conservation mandates.

State Council

31

32

China and the Energy Equation in Asia

Persistent Limitations to Central Government Authority

Central government tools to tackle these issues remain limited to public campaigns, training programs, expert involvement, and persuading local governments to comply.35 In many ways China remains a “fractured central state” trying to control an energy system with resistance from corporate entities and local governments it cannot control. China’s State-Owned Enterprises and Mercantilist Practices

China’s SOEs have the power and resources to remain important players in the domestic energy policymaking game. For example, because China’s energy sector, particularly the petroleum industry, is a strategic sector, it evolves within a cocoon of economic protectionism. It derives power from its millions of employees, close government ties, and top leaders who intervene administratively to protect the industry.36 They can serve as important players of foreign policy. A brief examination of China’s outward energy policies in the Middle East and Africa shows the complex political, economic, and security policy moves that encompass its outward energy security policy. Securing oil at the source and buying foreign assets such as refineries independently and in joint projects have become the most visible pieces of China’s “go forth” energy policy. To some, this is a direct mercantilist attack on the global economic system.37 China’s “go forth” policy began in earnest in 2002, when it took the most promising SOEs and provided them with incentives such as tax breaks, low interest loans, and cheap land for strategic acquisitions to invest abroad. More than half of China’s outward investment has been in the resource sector abroad. The 2006 United Nations Conference on Trade and Development (UNCTAD) World Investment Report notes that China rose to sixth on the list of FDI outflows due to its need for natural resources and its investment in various projects.38 This included a broad range of oil production facilities in areas such as Algeria and Canada; natural gas reserves in Saudi Arabia, Central Asia, and Iran; and smaller projects in Australia and Africa. With the help of state diplomacy and financial backing, China’s state oil companies have been able to secure large-scale exploration and development projects as well as joint projects.39 From its equity stakes in oil exploration and production assets abroad, China’s companies produced 450,000 bpd of equity oil in 2005, which accounts for about 15 percent of its total imports. Production in Sudan, Kazakhstan, and Indonesia accounts for 79 percent of the total.

Making China’s Energy Policy 33

Substantial future sources will include Nigeria and Angola. While some of the oil flows directly to China, much of it is sold on the international market.40 The Middle East and North Africa are of growing importance because most of China’s future oil imports, around 70-80 percent of the total, will come from this region, particularly the Persian Gulf states. 41 In this region China links its political and economic goals to its quest for energy security. For example, China in 2005 formed a China-Arab Cooperation Forum to foster a broader strategic and economic relationship within which to couch its resource extraction policies. In light of its efforts, Arab countries have become China’s eighth-largest trade partner and the seventh-largest market for Chinese exports. China’s direct investment in Arab countries totaled $390 million in 2006, and in response Arab states funded over one thousand projects in China. Negotiations are ongoing for a free trade agreement, and in June 2006 they established a dialogue mechanism for energy cooperation in which they agree to coordinate activities in the UN and other international organizations regarding the oil, natural gas, and renewable energy sectors.42 Similarly, Beijing’s Africa Strategy promotes China’s broad economic interests in resource access, trade, and in political issues such as the “One-China” recognition policy. The general pattern of China’s relations with African states is clear in its developing relationship with Nigeria, which includes increased investment in its oil industry and a proposed free trade zone. Nigeria is soon to be China’s second-largest trading partner in Africa, with trade between the two countries reaching over $3 billion in 2006 (up from $384 million in 1998). China has signed a memorandum of understanding (MOU) with Nigeria to establish a strategic partnership–the first of its kind with an African nation. In addition, Chinese companies invest in fixed assets such as refineries and factories to develop long-term economic relationships. For example, China has agreed to invest in Nigeria’s infrastructure and to build a hydropower plant.43 China’s insecurity has led the government to finance many uncertain SOE projects, to absorb political risk where commercial companies would not go, and to establish closer relations with problem states such as Sudan. Through its “go forth” policy, China pays a premium to avoid international markets. As we have seen, it uses longterm, state-to-state contracts with major suppliers to gain advantage. 44 However, Beijing still argues that helping its national oil companies (NOCs) is necessary because they are at a disadvantage in the competition for global oil reserves, given their late arrival to the

34

China and the Energy Equation in Asia

international oil business. To Beijing, state finance is a tool commonly employed by other governments to benefit their oil companies. Regarding international oil companies (IOCs), it notes that the major Western oil companies long ago built relationships with oil-rich governments in the relatively accessible and stable regions of the world, leaving remaining reserves in less stable, less accessible areas.45 Minxin Pei from the Brookings Institution maintains that it is “a nolose proposition for China’s state-owned oil companies, but a high risk plan for the Chinese government.” He argues that the three majors are given almost unlimited financial resources to make overseas acquisitions, regardless of economic viability or geopolitical risks. The government will bail them out if a deal fails and will take the blame. However, if they succeed, the companies reap the economic benefits. 46 The migration of economic power from government to SOEs makes them important quasi-governmental agents of foreign policy.47 The high-profile oil diplomacy that yields projects for SOEs represents only a small portion of the investments these companies make. Most contracts result instead from the companies recognizing the opportunities first, initiating the negotiations independently, and seeking government approval of the pending investment plan along with financial and diplomatic support after the fact.48 In this way, CNOOC’s bid for Unocal progressed without the knowledge of the MFA. Further, there is evidence that the SOEs act in their own interest, especially when it affects their bottom line, regardless of government directives. For example, in 2005, when Beijing adopted price control policies to keep domestic oil prices low, this led to losses for the NOCs. In response, they constrained crude runs, reduced product imports, and increased exports to minimize their losses.49 This is a practice they maintain today. Further, since joining the World Trade Organization (WTO), Beijing has made commitments to trade and investment liberalization that, once implemented fully, open the Chinese economy considerably to foreign firms. Over time China has become more acclimated to IOCs’ involvement in its energy sector, and generally Western market-style business practices prevail. In the energy sector, domestic energy prices reflect international market prices, except in petroleum. Gradually foreign company access to areas such as petroleum sales to foreign competition and reducing tariffs has been linked to imports of certain capital goods.50 China needs these collaborations because it does not have the technology or technological expertise for many difficult projects.51 In September 2007 new guidelines governing foreign participation in the onshore sector were set to increase foreign company access to China’s oil sector.52 However, many provinces resist such

Making China’s Energy Policy 35

change and have proved to be powerful players in the energy policy implementation game. Local Resistance to Changing Development Practices

Another major barrier to implementing a coordinated energy strategy comes from local resistance to Beijing’s changing development goals and demand-side mandates. Since Deng’s economic reforms, provincial authorities have had fiscal authority, have pitched projects to potential investors, and have followed their own foreign economic policies. This has led to pockets of great economic and energy use reform and success while other areas have lagged behind. In practice, provinces pick and choose the central government administrative and legal guidance they want to follow. If government mandates threaten local economic growth, they are likely to be ignored. This confrontation arises because there are competing interests between the provincial-level need for economic growth and the center’s push for policy reform that increases local costs (whether market reforms or calls for environmental protection). For example, Beijing’s efforts to eliminate energy price subsidies face great opposition because they lead to unpopular price increases for China’s citizens. While the central government might aspire to see a rationalization in energy pricing to reduce energy consumption, local economic and social development concerns hinder its progress.53 This pattern in local resistance will be examined more closely in chapter 6. Conclusion

China’s energy policy is formed within a context of evolving development priorities and domestic interests. At its center is its foreign policy notion that a harmonious external environment is essential to its domestic development goals. However, China’s domestic development, specifically its increasing energy demand, puts pressure on the same global system and causes concern. A vicious cycle is in the making. Economic growth alone does not provide a full picture of China’s development path. Continuing corruption, problems with SOEs, and growing environmental degradation add to the long list of challenges to China’s fast-paced development. Energy represents the newest and greatest challenge to China’s continued development. As a result, energy security has become a cornerstone of China’s foreign policy strategy. Discussions of China’s definition of energy security converge in an environment of competing policy tendencies. The geopolitical focus

36

China and the Energy Equation in Asia

emphasizes an external definition stressing factors that influence competition among states for a scarce resource and China’s need to emerge as a global power. Mercantilism presupposes that policy control should remain in China’s hands to prevent undue foreign competition, with the role of foreign multinational corporations (MNCs) limited. A key role is reserved for SOEs, state planners, and industrial policy.54 In contrast, liberal themes emphasize the positive side of economic integration and the potential for international cooperation over energy security. Liberalism emphasizes that oil is simply another commodity sold on the open market. Inside China there has been a push-pull pattern develop between these two opposing influences: the push to global interdependence and the internal pull to avoid dependence in the energy and development debates.55 Both themes inform the energy policy debate in China. The next three chapters present competing geopolitical and complex interdependence lenses to explore the different strains of thought in China’s foreign policy approach toward its neighbors. A closer look at its regional strategy puts its “go forth” policy in perspective. Through this analysis of its external policy, China’s motivations and goals for its energy policy can be evaluated. Does and will China pursue energy security through strategies that risk conflict, or will its energy vulnerability lead it toward cooperation with other consuming nations through participation in bilateral and multilateral arrangements or other forums? A closer look at China’s relations with its neighbors will help answer this fundamental question. A focus on Central Asia begins the analysis. Central Asia is important because it represents the “best” opportunity for new oil and gas exports to be sent to China without external interference.

1

See, for example, Shirk, China. See, for example, Lampton, Same Bed Different Dreams; Medeiros Taylor, “China's New Diplomacy,” pp. 22-35. 3 Yu, “Harmonious World,” p. 13; Gill, Rising Star; Goldstein, Rising to the Challenge; Kurlantzick, Charm Offensive. 4 Xu, “Theoretical Reflections,” pp. 45-46. 5 Xia, “Partnerships Will Help Solve Energy Conflicts”; Zhao, “Five Steps to Prevent Future Energy Woes.” 6 See, for example, Berrah, Feng, Priddle, and Wang, Sustainable Energy in China. 7 Shirk, China, pp. 6-7. 2

Making China’s Energy Policy 37

8 In this way the Chinese play a two-level (or nested) game, to use foreign policy to promote stability in the domestic political context. See Putnam, “Diplomacy and Domestic Politics,” pp. 431-468. 9 IEA, China’s Worldwide Quest for Energy Security; Calder, “Coping with Energy Insecurity,” pp. 3-54; Yusuf and Nabeshima, China’s Development Priorities, pp. 102-108. China’s energy intensity remains high because of its reliance on coal. However, its efficiency is improving with improving technologies and incentives in place to promote energy efficiency. 10 Some estimate that the financial crisis in fall 2008 may lead China’s annual growth rate to drop to 4-5 percent. This possibility raises important questions for China’s political stability, economic well-being, and commitment to expensive environmental improvements. 11 Zheng, “China’s Peaceful Rise,” pp. 18-24; Zhou, “China's Peaceful Development and Sino-U.S. Relations.” See also Hu, “Build towards a Harmonious World”; Information Office of the State Council, PRC, China’s National Defense in 2006; and Yu, "Harmonious World,” pp. 11-29. 12 Keidel, “The Limits of a Really Poor China.” 13 Xu, “Theoretical Reflections,” pp. 44-45; Zheng, “China’s Peaceful Rise,” pp. 18-24. 14 See Yusuf and Nabeshima, China’s Development Priorities for a thorough discussion of China’s economic priorities and challenges. See also IEA, China’s Worldwide Quest for Energy Security. 15 See Gallagher, China Shifts Gears; and “Pollution Costs Equal 10% of China's GDP.” 16 Wu, “Green GDP in the Works.” See also Kahn and Yardley, “As China Roars, Pollution Reaches Deadly Extremes,” pp. 1, 6-7. 17 Downs, The Brookings Foreign Policy Studies Energy Security Series: China, pp. 1-10; Yusuf and Nabeshima, China’s Development Priorities, pp. 102-108. 18 Economy, The River Runs Black, pp. 90-101, 178-185. 19 Zheng, “China’s Peaceful Rise,” pp. 18-24. 20 “Wen Jiabao Convenes First Meeting of the State Leading Group.” 21 See Lieberthal and Lampton, eds., Bureaucracy, Politics, and Decision Making. 22 Traditionally the most important leaders have controlled the Foreign Affairs LSG and the Taiwan Affairs LSG. These interagency coordinating bodies oversee the flow of information and options presented to the politburo. This is their framing mechanism. See Lampton, Same Bed Different Dreams, p. 292; "Wen Jiabao Convenes First Meeting of the State Leading Group.” 23 Ning, The Dynamics of Foreign-Policy Decisionmaking, pp. 118-127. See also Moore and Yang, “Empowered and Restrained,” pp. 202-215; "Wen Jiabao Convenes First Meeting of the State Leading Group”; Pearson, “The Case of China’s Accession to GATT/WTO,” pp. 346-357; Cheung, “The Influence of the Gun,” pp. 78-79; and Lampton, “China’s Foreign and National Security Policymaking Process,” pp. 10-20. 24 More broadly, Elizabeth Economy argues that the greatest reticence in international negotiations regarding environmental issues has come from the MFA and NDRC, which emphasize sovereignty over natural resources and development needs, while others such as SEPA prioritize environmental goals,

38

China and the Energy Equation in Asia

and the State Economic and Trade Commission (SETC) emphasizes losses to new technology and technical know-how if China does not participate. The consistent position in international environmental negotiations that the West should take primary responsibility and restructure and reform their wasteful practices first seems to illustrate the influence of the MFA and NDRC. See Economy, The River Runs Black, pp. 178-185; and Lampton, “China’s Foreign and National Security Policymaking Process,” pp. 10-20. 25 DOE, Energy Policy Act 2005, p. 15. 26 Naughton, “The New Common Economic Program.” 27 Chinese government approval is necessary for deals over $30 million from China’s central planning bureaucracy, the NDRC, and from the State Council for investments over $200 million (see Downs, The Brookings Foreign Policy Studies Energy Security Series: China, p. 40). 28 “Wen Jiabao Convenes First Meeting of the State Leading Group.” 29 Downs, The Brookings Foreign Policy Studies Energy Security Series: China, pp.16-24. 30 Author discussions with various China and government experts in fall 2007, Washington, DC; Lan, “Who’ll Turn on the Lights.” 31 “China to Set up Five New ‘Super Ministries.’” 32 “China Announces Overhaul of Energy Agencies, Management”; Kadak, Testimony before the U.S.-China Economic and Security Review Commission; Downs, Testimony before the U.S.-China Economic and Security Review Commission, pp. 1-2. 33 Downs, Testimony before the U.S.-China Economic and Security Review Commission, p. 3. 34 Cunningham, Testimony before the U.S.-China Economic and Security Review Commission, pp. 1-2. 35 Author discussions with China experts and officials, October-November 2007, Washington, DC, and May 5-11, 2007, Beijing, China; Cunningham, Testimony before the U.S.-China Economic and Security Review Commission, pp. 1-4. 36 Lampton, Same Bed Different Dreams, p. 290. 37 Foreign Press Center, Department of State, “U.S.-China Energy Policy Dialogue.” 38 Reported in Show, “Foreign Direct Investment Flows.” 39 Accenture, China Spreads Its Wings, p. 6; Embassy of the People's Republic of China in the USA, “Chinese Central Bank Reaffirms Policy over Currency"; Yan, “Why China ‘Goes Global,’” p. 10. Chinese government officials argue that Chinese companies face challenges that many of their competitors do not in the global economy. In their inexperience they have had to learn to deal with different management styles, have struggled to establish international brands, and have overcome a lack of managerial expertise. Their foreign competitors also have advantages in terms of pay and prestige. Politically and economically, they have faced protectionist obstacles to their globalization strategy, particularly in the United States and Europe. 40 Downs, The Brookings Foreign Policy Studies Energy Security Series: China, p. 40; World Bank, “Project Performance Assessment Report,” p. 8. 41 Wu, “China-Arab Energy Cooperation”; Downs, The Brookings Foreign Policy Studies Energy Security Series: China, p. 43. Specifically, 18 percent

Making China’s Energy Policy 39

comes from Saudi Arabia, 14 percent from Angola, 13 percent from Iran, 10 percent from Russia, 9 percent from Oman, 5 percent from Yemen, 5 percent from Sudan, 4 percent from Congo, 3 percent from Indonesia, and 3 percent from Equatorial Guinea. 42 See “China, Arab States to Hold First Oil Meeting”; “Arab Countries, Principal Source of China’s Oil Imports.” 43 Taylor, “Sino-Nigeria Relations,” pp. 11-13. Accompanying such expanding trade ties, the People’s Liberation Army (PLA) conducts high-level exchanges, trains military personnel, and participates in ongoing peacekeeping operations in Africa. See Puska, “Resources, Security and Influence,” pp. 2-6. 44 Deutch, Ogden, and Podesta “China’s Energy Challenge,” p. 54. 45 Evans and Downs, Untangling China’s Quest for Oil; Kendall, “China’s Domestic Oil and Gas Mission,” p.10. 46 Pei, “China's Big Energy Dilemma.” 47 Lampton, “China’s Foreign and National Security Policymaking Process,” pp. 10-20. See also IEA, China’s Worldwide Quest for Energy Security, pp. 45-46. 48 DOE, Energy Policy Act 2005, p. 33; Zhao, “China’s Energy Procurement Strategy,” p. 26. 49 DOE, Energy Policy Act 2005, p. 15. 50 DOE, Energy Policy Act 2005, p. 10. 51 “Petrochina to Fund Six Projects from Share Offering,” p. 28. 52 Kendall, “China’s Domestic Oil and Gas Mission,” pp. 11-12; DOE, Energy Policy Act 2005, p. 11. Further, international majors regularly partner with Chinese majors in exploration projects. For example, in the South China Sea ConocoPhillips partners with Shell in CNOOC-operated South China Sea blocks. 53 Rosen and Houser, “China Energy,” pp. 10-11. 54 Pearson, “The Case of China’s Accession to GATT/WTO,” pp. 358-359. 55 Lampton, Same Bed Different Dreams, p. 255. See Ziegler, “The Energy Factor in China’s Foreign Policy,” which argues that economic interdependence promotes international cooperation and has moderated conflictual aspects of Chinese foreign policy.

3 The “Great Game” in Central Asia Energy resources in Central Asia have made the region an important foreign policy focus for China’s government. By the numbers, the importance of the Caspian region in the global energy equation (its oil accounts for only 2-3 percent of the world’s known resources) is quite small. However, its proximity to China’s market and the tightness of the world oil market make this 2 percent potentially critical. As China’s energy demand skyrockets, it seeks reliable supplies closer to home, and Central Asia can become an important source of that energy. The Central Asian energy equation is not a simple one. Given the vast distances involved, extracting and transporting these resources requires a big commitment by the parties involved. China’s ability to tap into Central Asian energy resources means overcoming serious infrastructure and investment challenges to get the resources to China’s eastern cities and the broader Asian market.1 Russia also can be an obstacle. It has the advantage of long-term ties to the region and weighs in on China’s ability to gain influence in the region. Still, China promotes a shared diplomatic, economic, and security interest and seeks closer ties with Central Asia and access to its energy resources. Central Asia forges ahead to create its own identity rather than just remaining a place acted upon by outside great powers such as Russia and China. Cut off from the world while part of the Soviet Union until 1991, the region works to forge an identity independent of Moscow. Given their relative poverty, geographic isolation, and close historical and functional ties to Russia, these states work to step out of the shadow of their former master. For Central Asia, China’s rapid rise offers the opportunity for new markets and creates ties to a country that may balance Russian influence. Recent broader economic ties with China and new options for oil and gas pipelines to Asia from the Caspian region potentially change the geopolitical dynamic in Central Asia.2 However, Central Asian states walk a tightrope to avoid being sandwiched between the regional giants or to become victims of a new resource “great game.” This chapter explores China’s energy diplomacy by focusing on its extensive efforts to secure Kazakhstan’s oil and more recent efforts to

41

42

China and the Energy Equation in Asia

secure Central Asia’s natural gas. To do so, it addresses a number of interrelated questions. What strategy and tools has China employed to guarantee access to Central Asia energy resources—specifically oil and gas? How receptive are Central Asian states to China’s efforts to woo them for their energy? What role does and will Russia play in the competition for Central Asian energy? What domestic policy drivers shape China’s approach in Central Asia? Energy Resources in Central Asia—What Is There to Fight Over?

Oil resources and exports from the Caspian basin are much better developed than the region’s gas sector. Although China’s involvement is more recent, large-scale Western investment in the oil sector began in the early 1990s with the Caspian Basin Consortium, which has exported millions of barrels to the European market. The most lucrative oil field, the Tengiz field with estimated recoverable reserves at 7.3 billion barrels, began to be exploited by U.S.-based Chevron-Texaco and Kazakhstan in a consortium in 1993. The Kazakhs welcomed Western IOCs because they needed their expertise and equipment to develop the field that the Russians lacked. The government saw such joint ventures as helpful to Kazakhstan’s modernization efforts and since has used it as proof that Kazakhstan is open for business. In 2002 another prominent consortium led by Italy’s Eni reported that the new Kashagan offshore field rivaled Tengiz with 7-9 billion barrels of proven oil reserves.3 This oil is destined to come online by 2011 and will reach multiple international markets with destinations in Russia, China, Europe, and Turkey. Kazakhstan has followed a strategy that diversifies transportation routes in a multivectored energy export policy. As such, Astana seeks multiple pipelines to ensure that no regional power can exercise strategic control over its energy routes and its broader economic future.4 Even recent events in Georgia have not changed this goal, just reinforced it. Table 3.1 presents data reported by the EIA that show a range of estimates for oil production and reserves in the Caspian Sea region. By 2005 Caspian regional oil production reached around 2.1 million bpd, and the forecast is for it to increase to 3.1 million barrels by 2010. Most of this oil goes to Russian and European markets.

The “Great Game” in Central Asia 43

Table 3.1: Caspian Sea Area Production and Reserve Figures Caspian Sea Production (thousand bpd) Country

1992

2000

2005

2010 Low 900

High 1290

Azerbaijan Iran Kazakhstan

222

309

440

529

718

1293

Russia (Caspian area)

0

0

0

Turkmenistan

110

157

196

165

350

Uzbekistan Regional Total

66 927

152 1336

125 2054

150 2054

250 2915

N/A 1600

1800 100

Caspian Sea Reserves (billion barrels) Country Azerbaijan Iran

2005 Low High 7 7 0.1

Kazakhstan

9

Russia (Caspian area) Turkmenistan

40 0.3

0.55

Possible 32 15 92

2010 Low 9 15.1 49

7 1.7

38

High 14 80 7.3

2.25

3.4

Uzbekistan 0.3 0.59 2 0.89 1.19 Regional Total 17.2 49.7 186 88.5 116.0 Source: Energy Information Administration, World Proved Reserves of Oil and Natural Gas, Most Recent Estimates (January 9, 2007). Proven reserves are defined by the EIA as those volumes of oil and gas that are recoverable with reasonable certainty economically, taking into account current economic and operating conditions. Possible reserves are defined here to include other reserves found through extensions, divisions, and new discoveries.

Based on reserves, production figures, and geography vis-à-vis its location along China’s frontier, Kazakhstan is the prize for China’s highly developed petroleum market. Kazakhstan has about half of Russia’s total 60 billion barrels in reserves and holds more than the 21.8 billion barrels that the U.S. is estimated to have. Also, this energy is geopolitically desirable because Kazakhstan is the only country that China can import from directly overland without it passing through Russia first.5 Kazakhstan’s overall oil exports currently are about 1.0 million bpd; 220,000 bpd of this goes to China. The Central Asian energy map in Figure 3.1 illustrates Russia’s dominance of the pipeline picture and the new inroads China is trying to make.

44

China and the Energy Equation in Asia

Significant natural gas reserves are more broadly dispersed across Central Asia. Uzbekistan leads the way in the region in terms of natural gas production, followed by Turkmenistan and Kazakhstan, but Turkmenistan leads the way in terms of reserves, with Kazakhstan and Uzbekistan about even. Currently most of this gas is used domestically in Central Asia, but some is exported to its neighbors and to Russia. However, the usefulness of this gas for China still rests in potential because there are significant challenges to monetizing Central Asia’s gas and in getting it to the Asian market.6 Central Asia’s three natural gas providers with the greatest potential—Uzbekistan, Turkmenistan, and Kazakhstan—all face the challenge to diversify their markets to make planned natural gas exports viable. Both Uzbekistan and Turkmenistan have significant reserves but currently produce from older fields that are showing signs of decline. Both countries need new investment dollars to increase production. Uzbekistan is the second-largest producer of natural gas in the Commonwealth of Independent States, or CIS (after Russia), and has sped up production at existing fields and sought to develop new fields primarily with the help of Russia’s giant state gas company, Gazprom. With Gazprom, it plans to spend $1.5 billion to revamp natural gas pipelines in the region to boost exports through Russia. In Turkmenistan older fields such as Dauletabad (which have been in production for decades) are showing signs of depletion. Its domestic natural gas market is just recovering from years of turmoil, and it seeks to open new opportunities beyond Russia. Currently most of Kazakhstan’s gas comes from the Tengiz and Karachaganak fields and is used domestically or flared off. In 2007 production increased 8 percent, and Kazakhstan was set to become a net exporter of gas beginning in 2008.7 Given what they have, Central Asia’s gas reserves and production potential are significant. Russia checks in at just over 23 percent of the world’s total production at 656,200 billion cubic meters per year (cm/y). Uzbekistan weighs in at 2.2 percent of production (62,500 billion cm), Turkmenistan at 2.1 percent (60,420 billion cm), and Kazakhstan at 0.8 percent (25,390 billion cm). China itself produces 2 percent or 58,600 billion cm. In terms of natural gas reserves based on 2007 estimates Russia holds the top spot at 47,570,000 billion cm (27.8 percent of the global total), Turkmenistan has 2,820,000 billion cm (1.6 percent), China 2,450,000 billion cm (1.4 percent), Uzbekistan 1,798,000 billion cm (1 percent), and Kazakhstan 1,765,000 billion cm (1 percent).8 Just a few short years ago Central Asian gas was a commodity considered too difficult to produce except by Russia. Today it is a desirable resource worth billions of dollars in investment. However,

The “Great Game” in Central Asia 45

getting the resource to markets beyond Russia requires significant political and economic effort. Although Moscow has a great advantage in the current pipeline picture, this picture is beginning to change. Some new pipelines are in the works, and others have recently come online. Energy industry executives and experts in Kazakhstan argue that with new pipelines Kazakh, Uzbek, and Turkmen energy resources will be online to new markets in five to ten years, including China.9 Even the Georgia crisis reinforces the lesson that careful diversification is desirable, but that balancing Russia will always be part of the Central Asian energy equation. Given the resource picture in Central Asia, the region offers China needed energy resources. Accordingly, Central Asia has been a focus for China’s “go forth” policy. China’s Energy Diplomacy—Going Forth in Central Asia

While Western and Russian energy investors dominated Central Asian energy investments through the 1990s, since 2000 China has played a bigger role. China’s ties to the region began in 1994, when it sought exploration and development deals as part of Premier Li Peng’s visit to Kazakhstan. China’s first deal came in 1997, when its CNPC bought a 60 percent share of the Aktobemunaigaz oil company for $4.3 billion and later that year won the controlling interest in Uzen, the secondlargest oil field in Kazakhstan. The next year the two countries agreed in principle to build a nearly 3,000 km oil pipeline linking Kazakh oil fields with China’s Xinjiang Province in a deal to be financed by CNPC over twenty years.10 Despite initial enthusiasm for these deals, however, no progress occurred for several years due to a lukewarm reception on the Kazakh side and reluctance by China to invest in the needed infrastructure. The discovery of Kazakhstan’s giant Kashagan oil field (estimated to be the fifth-largest in the world), disappointments with Russia regarding energy cooperation, and domestic energy shortages became important factors to make the Chinese leadership again look to Central Asia for energy. As a result, in March 2003 CNPC and the Kazakh state oil company, KazMunaiGaz (KMG), jointly constructed the westernmost section of the cross-border oil pipeline running 448 km from Atyrau to Kenkiyak in Kazakhstan. The eastern-most part of the pipeline, running 988 km from Atasu in Kazakhstan to Alashankou at the Chinese border, was completed at the end of 2005 and became operative in May 2006 with a total investment of just under $800 million (see Figure 3.1).11

46

The “Great Game” in Central Asia 47

The Kazakh-China pipeline project is a 50-50 joint venture between KMG and CNPC, although the Chinese company paid 85 percent of the cost. Only 44,000 bpd of crude oil flowed through it in 2006, but its capacity is estimated to be ten times that amount after connecting pipelines within China and Kazakhstan are completed. The pipeline can accept crude oil deliveries from the west, from the north (Russian sources in western Siberia), or from the south from Kazakhstan’s Turgai basin. To function effectively, the pipeline needs Russian oil to supplement Kazakh contributions because of insufficient fill and viscosity issues.12 The final section, the Kenkiyak-to-Kumkol piece, began being built in December 2007 with an expected completion date of October 2009. The construction project is a joint venture between China National Oil and Gas Exploration and Development (CNODC) and KazTransOil. Specifically, once the 761 km Kenkiyak-to-Kumkol pipeline section is complete, China’s oil imports through the pipeline may increase from the current 1 percent to 15 percent of China’s total crude needs, making Kazakhstan a major source of China’s oil imports.13 A Eurasia Group Report prepared for the U.S.-China Economic and Security Review Commission in 2006 argues that the purpose of the pipeline is to provide a long-term, strategically secure source of oil rather than to meet immediate demand requirements. It concludes that China seems comfortable with a gradual increase in volumes delivered through the pipeline.14 China’s purchase of PetroKazakhstan (Petrokaz) and its new assets in the Turgai basin (including full ownership of Kumkol South and joint ownership with Lukoil of Kumkol North) will improve the pipeline’s efficiency because the oil fields feed the pipeline at its midpoint. For example, Petrokaz’s combined assets in the Turgai basin produce around 150,000 bpd of crude, which could go directly into the pipeline. 15 Through the Petrokaz acquisition, CNPC also gained a 50 percent stake in the Kazgermunai field (the other 50 percent is owned by stated-owned Kamunaigas). To secure these deals, CNPC has agreed to invest nearly $4 billion more over the next twenty years to develop other areas.16 These agreements are significant and demonstrate the Chinese determination to develop closer ties with the Kazakh energy industry.17 Although China’s investments in Kazakhstan’s energy sector seem substantial—that is, the multibillion dollars in development of various oil deposits, Petrokaz’s purchase, and construction of the Kazakh-China oil pipeline—they are outpaced by Western investments such as Chevron’s $20 billion investment to develop just the Tengiz oil deposits for Kazakhstan. Other international companies, such as British Gas, Mobil, Total, Agip, and British Petroleum, have signed agreements with

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Kazakhstan on developing various oil deposits as well.18 However, China’s NOCs may have an advantage in the future over their Western counterparts, in that they have the backing of their government. This gives them greater financial reserves to draw upon as investment gets more expensive. The NOCs also have been more willing to invest up front in big infrastructure projects. For example, China’s CNPC agreed to foot the whole bill for the oil pipeline from Central Asia when no one else would. Isabel Gorst, in her Petroleum Economist article, calls pipelines like this the “trump cards” in the geopolitical battle to gain access to resources in Central Asia.19 China’s NOCs follow an acquisition strategy that is becoming more common across the globe. They purchase stakes in exploration and production activities and whole firms, and where needed to partner in joint ventures, they finance infrastructure projects, market petroleum products, and operate facilities.20 Fears of China’s growing influence have stopped some deals. For example, the CNPC takeover of Petrokaz, noted above, with its investment of $4.2 billion in 2005, led the Kazakh government to pressure CNPC to sell a 33 percent share of the company (for $1.4 billion) to Kazakhstan’s KMG for a huge loss. The sale price undervalued Petrokaz as it gave advantageous terms to the Kazakh company.21 The Kazakh government forced CNPC to pay above market value for Petrokaz (by about 20 percent) in the first place and forced it to undersell some of its assets to the government.22 In 2002 Western companies in the BG Group also prevented CNOOC and Sinopec from acquiring a significant stake in Kazakhstan’s Kashagan oil field.23 Overall, in Central Asia and beyond, the balance of power in energy investments has begun to shift from the commercial to the public sector. Increasingly energy producers have the upper hand with the oil majors and NOCs. For example, as the Petrokaz deal illustrates, producer states specifically push for more favorable terms in contracts with foreign companies. Foreign firms can expect to be junior partners in any new deals. This behavior reflects producer dissatisfaction with previous production sharing agreements (PSAs) signed during desperate times in the 1990s when oil prices were low and foreign companies had the advantage. New practices seek to rebalance these agreements.24 In 2007 Kazakhstan’s government began to follow the Russian model of energy nationalism, which insists on state control of strategic assets. New laws introduced in October 2007 allow the Kazakh government to break natural-resources contracts and force renegotiation. This puts pressure on projects involving both IOCs and NOCs in new and well-established partnerships. Projects such as the consortium of

The “Great Game” in Central Asia 49

companies producing at its Kashagan-Caspian fields are in immediate danger, given their ongoing dispute with the government over production delays and cost overruns to the tune of $20 billion. The current PSA for the Agip consortium (which includes ExxonMobil, ConocoPhillips, Shell, Total, and Japan’s Inpex) delays royalty payments until after its costs are recovered (estimated to be well beyond 2010). In this new investment model, described by some as “marketfriendly resource nationalism,” the state company became the dominant partner. This arrangement allows partners to coinvest in the country’s oil sector.25 Some argue that this change in law is a defensive move to prevent Chinese companies from gaining too much control of Kazakhstan’s resources.26 Whatever the motivation, this change in Kazakh business practices shows how the energy producing states are confident that they can get their way in energy deals. Kazakhstan has leverage because it is one of the few places with untapped oil and gas reserves still open to investment. It believes that companies will remain interested despite these new regulations. With the rise in energy prices, Kazakhstan’s economy grows, which allows it to reset the terms of investment in the Kazakh energy sector.27 The Petroleum Economist, however, argues that such strategies work only as long as prices remain high. Eventually the lack of investment will hit its output capacity, and such countries will be unable to meet their supply commitments.28 The current economic hurdles already seem to be affecting the situation as investors became cautious and the Kazakh side is trying to calm them down.29 However, producers retain the upper hand as long as they control the flow of needed oil and gas and have developed their own expertise or can buy it from abroad to overcome their limitations. Traditionally NOCs had wealth in reserves and IOCs had the technology and cash, but this relationship changes as IOCs lose their competitive advantage.30 Central Asian natural gas faces greater challenges than does the oil sector. It has been plagued by low prices, underdeveloped markets, and the remote location of its gas fields. As the above Central Asian energy map (Figure 3.1) shows, the Russian lock on the pipelines out of the area also makes exporting difficult. At this point in time, Russia’s state gas company, Gazprom, has a near monopoly on Central Asian gas exports despite China’s inroads; today 92 percent goes through Russia via the Central Asia-Center pipeline system, which feeds the Gazprom system. Through November 2007 Russia accounted for all of Turkmenistan’s exports and most of its gas production.31 These circumstances make monetizing Central Asian gas difficult. Russian reactions to Georgia in summer 2008 further complicate the risk analysis that states must make.

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China and the Energy Equation in Asia

Although natural gas accounts for less than 3 percent of China’s total energy consumption now, if projections that it will double by 2010 are correct, a booming market will develop. China currently satisfies much of its own domestic needs, but with the expected increase in consumption (expected to grow by 7.8 percent per year between 2002 and 2025), future gas consumption will rely on increases in domestic production and growing imports.32 The Chinese government plans to boost its natural gas production by 50 percent by 2010 to meet this growing demand. Still, it must overcome a 30 billion cm production gap to meet the estimated 2010 demand of 90 billion cm. (Its output was 58.5 billion cm in 2006.)33 China’s race for Turkmenistan gas illustrates its belief that imports are needed to bolster domestic production to meet future demand. Turkmenistan signed an April 2006 contract to deliver 30 billion cm a year (cm/y) to China for thirty years through a new line scheduled to begin shipping in 2009. If accomplished, the inauguration of the 7,000 km Turkmenistan-China gas pipeline will provide a new outlet for Turkmenistan’s fields in Bagtyyarlyk, where CNPC holds a productionsharing agreement.34 In September 2008 the Turkmen president reaffirmed that the pipeline to China would begin operation as scheduled.35 However, pipeline politics are never simple, and Turkmenistan may have overcommitted its gas. If a 2002 cooperation accord signed with Russia comes to pass, Turkmenistan may be unable to fulfill all of its gas commitments. Turkmenistan struck the deal to deliver 20 billion cm more to Russia by 2010 through a new pipeline across Kazakhstan.36 In practice, the Russian deal signed in June 2007 ensures that exports from Central Asia will travel north, through Russia, and not directly west, across the Caspian Sea to Europe.37 A slower than expected demand for gas in China in 2005-2006 may have motivated Turkmenistan to move forward on the Russian deal. However, China’s new deal is tempting because it gives Turkmenistan valuable leverage in negotiations with Russia, and like Kazakhstan, it may be in a position to play one power off another.38 As with its oil deals, China incentivizes its gas deals with broader trade and infrastructure investments. With the December 2007 Turkmen gas deal, China announced a nearly $2.2 billion investment in the pipeline from Turkmenistan to China involving CNPC and PetroChina. 39 Such deals succeed, in part, because they sit within an economic and political fabric, which helps to overcome any resistance. These pipelines are essential for China to be able to compete for Central Asian gas. If all

The “Great Game” in Central Asia 51

the plans on the books bear fruit, Beijing will import over 20 billion cm/y of gas from Russia, Kazakhstan, and Turkmenistan by 2012.40 However, concerns over energy nationalism on the gas side have led to discussion over the potential for a natural gas cartel. Talk of a Central Asian gas cartel arose because a small number of countries hold a majority of the available natural gas. Central Asia with Russia, for example, holds 37 percent of known gas reserves. This speculation followed talks between Russia and Iran and then Russian president Vladimir Putin’s talks with Saudi Arabia and Qatar that among them they represent the world’s top four producers who control 50 percent of all discoveries. Europe, in particular, is sensitive to such discussions because Gazprom already controls much of its gas imports. With Gazprom in control of Russian energy policy, repetition of this pattern is possible. Another view argues that most gas producers remain lukewarm to the idea, however. Pipelines remain the preferred means of exporting natural gas, and most gas deliveries are tied up in long-term contracts. Russia still seeks security of demand in long-term contracts with the Europeans. Also, Turkmenistan’s efforts to get long-term contracts keep the market liquid. In contrast, cartels work by taking a liquid market and making it illiquid. Unlike oil, the gas sector is not as liquid, and markets remain mostly regional.41 However, the growing demand for gas in East Asia is providing the context for a global natural gas price to be established (as the discussion in chapter 5 will illustrate). China’s inroads into Central Asian energy offer both competitive and cooperative opportunities.42 In some cases Russian and Chinese companies compete directly with each other for assets in the region. For example, in October 2005 Russia’s Lukoil bought the Bermuda-based Kazakh producer Nelson Resources, Ltd., which has reserves of 270 million barrels of oil in Kazakhstan after CNPC acquired Petrokaz. Russian companies also have increased their investment in Uzbekistan and Turkmenistan following China’s recent investments. Lukoil leads Russian companies in Uzbekistan with a $1 billion gas deal negotiated in June 2004. This follows the $600 million in contracts that CNPC signed with Uzbekneftegaz in oil and gas cooperation. In June and September 2006 CNPC signed two more agreements with Uzbekneftegaz to explore and develop prospective oil deposits along the Aral Sea, together with Russia’s Lukoil, Malaysia’s Petronas, and South Korea’s National Oil Corporation.43 In addition, there is a $106 million deal between Sinopec and Uzbekneftegaz to rehabilitate aging fields and to spark new exploration.44 A higher level of Chinese investment could be in the cards for Uzbek gas if the newly renovated gas pipeline

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China and the Energy Equation in Asia

connecting the Uzbek capital to Almaty, Kazakhstan, eventually links to the gas portion of the Kazakh-China oil pipeline structure.45 We should expect Gazprom, in response, to sign more upstream deals in Uzbekistan and contract to buy Uzbek gas exports. The Straits Times argues that Russia works to “torpedo” deals such as the Turkmen-Kazakh-China natural gas pipeline, which would break its pipeline monopoly.46 For almost a decade China’s attempts to promote energy cooperation have created a broader web of interdependence between China and the region. Its efforts seemingly fit within its broad foreign policy rhetoric of peaceful development and promotion of common interests.47 China’s progress, however, can be understood only in the context of its strategic relationship with Russia. A key task is to evaluate the Russia factor more closely. Understanding the Economic and Political Context of China’s Central Asian Energy Security Policy

Political trends in Central Asia are dominated by growing integration and inroads into balancing Russia’s traditional influence. China uses diplomatic tools such as a broad range of economic incentives within which to couch its energy-for-trade deals. To secure a steady supply of oil and gas, China must overcome a competitive environment, lingering mistrust of China, and Russia’s monopoly in the region. China’s Growing Trade with Central Asia

Economically, China works to show the region the advantages of leaning east and linking to China’s market.48 From pipeline infrastructure projects to roads and broader investments, China has the ability to sweeten its energy deals. For example, China regularly funds infrastructure projects, including the billions of dollars in pipelines already noted and nearly $2 billion more destined to construct Central Asian connector highways. Although the trade numbers are modest when compared to China’s East Asian investments, China’s trade relations have expanded greatly within the region. In the mid-1990s the economic ties between China and Central Asia were in their infancy. In 1995, for instance, bilateral trade between China and the five Central Asian states totaled only $847 million, accounting for a modest 0.03 percent of China’s total foreign trade.49 By 2004 China’s trade grew significantly to reach $27 billion.50 Table 3.2 provides 2006 data for Chinese and Russian trade percentages with Central Asian states.

The “Great Game” in Central Asia 53

Table 3.2: Chinese and Russian Trade with Central Asian Countries (2006) Country

% China’s share of country's foreign trade

% Russia’s share of country's foreign trade

% Country's share of China's foreign trade

% Country's share of Russia's foreign trade

Kazakhstan 15.5 18.87 0.49 2.28 Kyrgyzstan 34.25 27.24 0.04 0.13 Tajikistan 10.77 12.22 0.02 0.08 Uzbekistan 5.71 16.39 0.05 0.51 Turkmenistan 1.37 9.76 0.007 0.19 Regional 12.68 17.47 0.607 3.19 Total Source: Table adapted from Paramonov and Strokov, Economic Involvement: Russia and China in Central Asia, p. 4. The data comes from the national statistics offices of the countries of Central Asia.

Not surprisingly, China’s economic and political ties have expanded most dramatically with energy-giant Kazakhstan. Kazakhstan is already China’s largest trading partner in Central Asia and the second in the CIS after Russia with a trade turnover of more than $3.3 billion. Kazakhstan’s closer links to China are due, in part, to greater geographic proximity and the opening of a railway route between Almaty, Kazakhstan and Urumchi, China that provides Kazakhstan with access to new avenues of trade with the rest of the world.51 China’s trade is vital for Central Asian states because it fills the void in consumer goods and provisions in the region. China’s advantage is that its goods cannot be matched by Russian goods in quality and are cheaper than goods from the United States or Japan. As noted, China provides other sweeteners such as loans to Kyrgyzstan for $5.7 million and Tajikistan for $5 million to buy Chinese commercial goods. While welcome, such deals may come at the cost of buying resentment by tying aid to Chinese products.52 In the near term, though, Central Asian economies see this as a positive as it brings in the needed goods. Central Asia is strategically important for China’s energy needs to fuel its economic development. In a broader security and political sense, it is vital that these states develop in a friendly way toward China.53 Through bilateral arrangements, noted previously, and in organizations such as the Shanghai Cooperation Organization (SCO), discussed below, China works to bring the regions closer together.

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China’s Common Interests with Central Asia and the SCO

China’s interest in cooperation over energy security with Central Asian states builds on its initial efforts in the region that focused on securing its borders and promoting political stability and counterterrorism (in China’s terms, countering extremism, nationalism, and terrorism). These interests form the core of the multilateral SCO’s purpose. Created in 1999 on China’s initiative, the organization includes China, Russia, Kazakhstan, Kyrgyzstan, Tajikistan, and Uzbekistan (which joined in 2002). The purpose of the SCO is to foster confidence-building measures along China’s borders, to address irredentist Uighur/Turkic movements, and to address other joint economic and security interests. Its guiding principles, known as the “Shanghai Spirit,” prioritize cooperation among the members rather than being organized against any state or group of states.54 China is the central vehicle behind the organization. It sponsors the secretariat, built the headquarters, and maintains the largest staff. The SCO has developed into an important trade conduit to help develop regional economic links and, in practice, has become a way to ensure China’s broad diplomatic presence in the region.55 Through the SCO structure, China pushes for new rail and highway infrastructure throughout Eurasia. At the 2004 SCO summit, China offered $900 million in credit at preferential rates to the other five members of the SCO to invest in infrastructure projects. In 2005, on the sidelines of the SCO, China signed an energy agreement with Uzbekistan worth $600 million, and President Hu Jintao separately forged a strategic partnership with President Nursultan Nazarbayev of Kazkhastan pledging to support Kazakhstan’s entry into the WTO. Hu says that China will set aside a special development fund of about $10 million for training fifteen hundred people from other SCO countries by 2009, focusing on economic, scientific-technical, and humanitarian cooperation.56 The Chinese government is quick to emphasize the similarity in interests between China and Central Asia.57 The similarities to be exploited became apparent in the wake of events such as the Uzbek government’s crackdown against the citizen uprising in Andizhan on May 13, 2005 (which reportedly resulted in more than seven hundred deaths). While there was international condemnation of the act and pressure from the West for an independent investigation, China was quiet. China is not ready to interfere in Uzbekistan’s or any Central Asian countries’ internal affairs and expects the same in return. In fact, China has many shared interests with Central Asia’s authoritarian governments, including the desire to promote stability above many other

The “Great Game” in Central Asia 55

priorities. China seeks continued cooperation to prevent Muslim radicals from spreading to the western part of China, just as it seeks to keep Tibetan protests at bay. Some differences exist between the two giants, Russia and China. At the 2007 annual SCO summit, Russia and China showed their different visions for the future of the SCO. For China, it remains a mechanism to gain access to Central Asia’s oil and gas resources without alienating Russia. Hu Jintao has stressed the need for SCO members “to take advantage of their economic complimentary and geographic affinity to maximize their economic development,” which signals China’s desire for cooperation with Central Asia in the energy field and beyond. However, behind-the-scenes reports note the complicated relationship between China and Russia regarding Central Asia.58 Vladimir Putin, and presumably Russia’s new president, presses for a greater consolidation of SCO institutions and pushes to expand the membership to include Iran. China, however, does not want an explicitly anti-United States organization and has blocked enlarging the membership. Still, some Western analysts see the SCO as an anti-U.S. organization.59 This fear lingers because Russian voices call the organization an “anti-NATO” alliance and “Warsaw Pact 2.” For example, the first ever SCO joint military exercise in 2007 has been interpreted as saber-rattling against the West. In addition, periodically Russian officials hint that the SCO serves as an organization to keep the U.S. out of the region.60 Despite Sino-Russian differences (and the organization’s anti-U.S. potential), the SCO may serve as the vehicle for promoting benign cooperation in Central Asia. This can happen if the two major states involved frame problems such as energy security as economic opportunity rather than creating a new battleground for political influence. In fact, the SCO joint statement from August 2007 calls for “a collective approach” to energy issues and an energy office that would increase communication between producers and transit countries.61 The advantages noted by Chinese officials are that under such a system the fuel would be routed through SCO countries, creating a closed and secure system—which would reduce China’s vulnerability to potential disruption along the sea-lanes.62 In August 2008 the grouping convened its annual meeting in Dushanbe, Tajikistan, where members signed the Dushanbe Declaration, which had SCO member states reaffirm the goal to collaborate on common problems. In terms of energy, they describe the need to resolve “the problem of resources supply to satisfy the needs of mankind without damaging the environment.”63

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Stephen Larrabee from the RAND Corporation argues that any regional energy cooperation is a short-term tactical marriage.64 Niklas Norling, from the Central Asia-Caucasus Institute, points to factors that may foster longer-term SCO unity despite recurring tensions. He argues that the “color revolutions” (such as the peaceful Rose Revolution in Georgia) in post-Soviet republics and Washington’s presence in Iraq and Central Asia help Sino-Russian relations. Sino-Russian interests converge because both want international and regional stability with continued development, and they need each other to see this happen. China needs Russia’s energy and raw materials, and Russia needs Chinese investment and help keeping the U.S. out of the region. 65 Premier Wen Jiabao’s trip to Russia in November 2007 to meet with Russian president Vladimir Putin seems to have signaled broader economic ties and a strengthening of their strategic relationship begun in 2001. Both leaders have described the relationship as the best in history.66 Putin’s replacement, Dmitry Medvedev, met with his Chinese counterpart, Hu Jintao, twice in three months (May and August 2008) to signal a strong Russian-Chinese partnership in foreign policy. Concerning energy security, President Medvedev supported “building a mutually beneficial and cooperative new energy security concept featuring diversified development and coordinated guarantees.”67 Even with greater cooperation with Central Asian states and Russia, China’s external energy policy is but one piece of the puzzle. China must address its domestic infrastructure bottleneck to utilize any energy it garners from Central Asia. China’s Energy Policy Drivers—The Domestic Side of Its Central Asia Energy Approach

Even though many Central Asian energy deals appear to be done deals, domestic challenges in China must be overcome if Central Asian energy is to reach China’s eastern markets. Most important, getting at Central Asian resources relies on new investments in China’s domestic pipeline infrastructure. In 2005 PetroChina (a CNPC subsidiary) owned and operated more than 9,000 km of crude oil pipelines and had plans to build much more. Still less than half of the crude transported within China goes via pipelines; the rest is transported by trucks, which is expensive.68 Despite pressing needs, there have been delays in pipeline development. To date, domestic investments have been insufficient to build the capacity to carry both domestic and Kazakh oil to China’s eastern markets. For example, when CNPC first raised the issue of constructing a West-East pipeline in 1996, it gained no traction. It was

The “Great Game” in Central Asia 57

delayed until 2000, when it gained momentum as part of the government’s “Developing the West” campaign to bring development to rural western provinces. At that point pipeline funding proceeded because it was part of a plan to inject public spending to pull the country out of an economic slowdown. Other projects have lagged behind. A plan to move Central Asian gas east is feasible only with massive domestic investments in the China portion of the pipeline linking Xinjiang to Shanghai. China faces financial obstacles as funding has been left up to state corporations, local governments, and foreign partners.69 Further, the international consortium to develop and ship gas along the West-East pipeline faced persistent environmental obstacles and changes in the international companies involved in the joint venture. Without the pipeline, broader use of natural gas may be stunted. The pipeline is designed to deliver 12 billion cm/y at a total cost of $18 billion, with $12 billion for exploration and field development and $5.6 billion for pipeline construction.70 China lags in its switchover to natural gas, and demand has not met the expectations that the government set out in its tenth five-year plan (2000-2005), which predicted that demand for gas would grow to 100 billion cm/y by 2010 and 200 billion cm/y by 2020. The IEA expects Chinese demand to be more modest at 69 billion cm/y by 2010 (which some still see as optimistic). With offers from Russia, Turkmenistan, and Kazakhstan (which among them offer to supply around 120 billion cm/y by 2010), China ends up oversupplied.71 Continued gaps in the domestic infrastructure and the lack of new gas power plants have slowed the development of China’s natural gas sector to this day. Apparently planned power plants have not been built because of bad planning in the sector.72 The expected government investment in gas-fired power has not occurred, which means that gas has not made inroads into the country’s energy mix that was anticipated. Natural gas is used primarily along the coast and in residential use. It remains underdeveloped in industry and power generation, the biggest overall energy users. Coal remains the source for nearly 90 percent of China’s electricity generation.73 To move forward, Beijing needs a nationwide regulatory framework that better coordinates projects to legitimate the large infrastructure projects.74 Further, a series of recent domestic finds in China might meet China’s future natural gas needs.75 PetroChina announced reserves of 150 billion cm in October 2006 from the Dabei fields, and Sinopec claims to hold 311 billion cm in reserves. These two finds make their onshore production promising, with some analysts even more optimistic about the potential of Bohai Bay and the South China Sea, where CNOOC along with Husky Energy and British Petroleum estimate their

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China and the Energy Equation in Asia

reserves to be over a trillion cm. If domestic production reaches 145 billion cm/y by 2020, it will meet 70 percent of China’s officially projected demand.76 The increase in domestic natural gas production comes with the help of foreign investment and pressure to clean up pollution from China’s coal-fired power generation industry. China recognizes that it needs foreign investment, technology, and expertise for capital intensive projects and has begun to open to these opportunities more. China’s release of a new white paper in December 2007 signals this change. In it the government stresses that the interests and legitimate rights of foreign businesses will be protected. It encourages investment in cooperative activities in exploration and development in oil and natural gas as well as construction and operation of oil and gas pipelines.77 Foreign businesses can expect to get approval for projects that increase the efficiency of domestic production operations, foster the development of unconventional resources (such as shale oil and tar sands), to expand LNG, and for refinery expansions that need Western expertise. Investments such as these are deemed important because they help solve China's energy-policy problems.78 In fact, recent technologysharing contracts with IOCs have led to significant improvements in well production when compared with production by NOCs alone. If well production is improved by 61 percent, as anticipated, it can lead to productivity savings worth up to 2 million bpd to China. As IOCs help to solve China's energy-policy issues, international energy firms gain access to other parts of the value chain where China's growth will lead to profitable businesses.79 Change seems to be moving fast. In 2007 Beijing approved direct foreign investment in refineries for the first time. The first is a $3.5 billion deal with ExxonMobil, Saudi Aramco, and Sinopec to triple the capacity of a Fujian refinery by 2009. These examples seem to fit within a broader pattern of change in China that has come since the country joined the WTO in 2001. However, progress is uneven and slowed due to resistance to change at the local and provincial levels. The domestic infrastructure barriers to importing oil and natural gas keep China looking to Russia’s pipeline picture, Russia’s resources in its far east, and Southeast Asia for greater energy supplies. Conclusion

There are two views of prospects for China in Central Asia. From a hard-line realist energy security perspective, there is a worldwide scramble for energy occurring, and consumers are taking any terms to

The “Great Game” in Central Asia 59

secure resources. Many argue that energy nationalism in the oil and gas game in Central Asia and beyond reflects a growing “battle” between Western notions of the free market determining price and supply and the producers’ view of their political needs and what they can get in the current energy environment that favors them. Western states fear and IOCs complain that the nature of the energy market is changing. Given that NOCs control almost 90 percent of the world's reserves, these circumstances are unlikely to change in the near term. However, the zero-sum view is tempered by a more complex emerging picture. It is important to remember that China’s purchase of upstream equity stakes is only a small part of its imports and only one piece of its energy security policy or broader foreign policy approach. China’s foreign equity production, which amounts to about 16 percent of the country's total imports of 3.4 million bpd, is not a tangible threat to the global market.80 This is a much more nuanced perspective than the one offered by Western IOCs that claim that NOCs are “rapacious firms using corrupt means and paying scant attention to human rights, the environment and local communities.”81 There is no new strategic “great game” in the traditional sense in Central Asia. As Martha Brill Olcott argues, neither Russia, China, nor the United States is able to dictate outcomes in this region. Instead, the developing neoliberal complex interdependent relationships create new opportunities to reframe traditional relationships. China’s rise need not be at Russia’s expense but might contribute to the mutual advantage of Moscow, Beijing, and Central Asia. The prospect of supplying China with energy could bring Central Asian states closer together or even improve Russian relations with Central Asia. For example, the Kazakh and Russian oil industries come together because both would supply China through the Kazakh-China pipeline. At the same time, China’s economic and geopolitical potential make Kazakhstan and other states understand that there is no way that the fate of their countries can be fully separated from that of China. Central Asian states seek balance in their international relations and line up with the U.S., Russia, and China when it is advantageous. Central Asian states are in a stronger position because of their energy assets and the new transcontinental transportation alternatives.82 Given the interdependence of the world's economies, it is impossible to forecast accurately how China will exert its influence on the oil market in the future. Chinese companies are still on the learning curve and will likely remain hostage to their energy needs and need to manage vulnerability.83 China’s hopes that Russia would become a major oil and gas supplier have been unfulfilled and disappointing.

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However, as Russia’s need for investment in capital and technology to bolster its aging energy infrastructure (it needs at least a $25 billion overall and approximately $6-7 billion annually) grows, this may change. Russia has the energy to provide China, and China has had the capital to help improve some of Russia’s poor infrastructure. From a foreign policy analysis perspective, domestic political challenges in China add another piece to the China-Central Asian energy puzzle. In terms of infrastructure investment, much more is needed if Central Asian energy assets are going to be exploited to their full potential. There is insufficient capacity to carry both domestic and Kazakh oil, for example. This and lingering financial obstacles for pipeline construction highlight the problem of weak central government control that leaves state corporations and local governments responsible for such projects. Certainly these factors act as a constraint on formation of a centralized strategic energy security policy. Looking at Sino-Russian relations more broadly beyond the Central Asian context illustrates how fragile the balance between cooperation and competition can be. Although Russia holds huge hydrocarbon reserves—the world’s largest natural gas reserves and eighth-largest oil reserves—it has only modest exports to China. The exchange has been hindered by Russia’s internal politics. Delays in the trans-Siberian pipeline deal (discussed in detail in chapter 4) to take oil from western Siberia to China’s Daqing oil field as well as Sino-Japanese competition over pipeline routing, among other issues, illustrate the complexity of energy politics.

1 Larrabee, “Changing Leadership Makes for an Uncertain Future in Central Asia.” 2 Lee, “China’s Quest for Oil Security,” p. 269. 3 Ten Years of Tengiz Chevroil; Nichol, Central Asia’s Security. 4 Blank, “China, Kazakh Energy, and Russia.” For example, a Sino-Iranian network of oil pipelines already gives the Central Asian states an alternative route for oil trade, which decreases their dependence on Russia. Completion of the Neka-Tehran pipeline offers the chance for oil swaps of Caspian and Iranian crude, which cut transport costs from the Caspian basin to China. In this plan, Caspian crude would go to Iran while Iranian crude would go by ship to China. 5 International Crisis Group (ICG), Central Asia’s Energy Risks. 6 Nichol, Central Asia’s Security, pp. 16-19. 7 Energy Information Administration (EIA), “Country Analysis Briefs: Central Asia—Natural Gas.” 8 2007 CIA World Factbook.

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9 Author discussions with energy executives and experts in Almaty, Kazakhstan, May 23-25, 2007. 10 Lee, “China’s Quest for Oil Security,” pp. 271-272. 11 Liao, “Central Asia and China’s Energy Security,” pp. 62-68. 12 Lee, “China’s Quest for Oil Security,” pp. 271-272. 13 Liao, “Central Asia and China’s Energy Security,” pp. 62-68. 14 Eurasia Group, China’s Overseas Investments, p.15. See also, Daly, “Analysis”; Sheives, “China Turns West”; and Lewis, “Chinese NOCs and World Energy Markets.” 15 Liao, “Central Asia and China’s Energy Security,” pp. 61-69; EIA, “Country Analysis Briefs: China—Oil.” 16 Eurasia Group, China’s Overseas Investments, p. 15. 17 Nichol, Central Asia’s Security. 18 Umarov and Pashkun, “Tensions in Sino-Central Asian Relations,” pp. 46. 19 Gorst, “KazMunaiGaz Lists in London,” p. 24; Daly, “Analysis”; Anand, “Politico-military Developments in Central Asia.” 20 DOE, Energy Policy Act 2005, p. 3. 21 Brower, “New Kid on the Block,” pp. 5-8; Liao, “Central Asia and China’s Energy Security.” See also DOE, Energy Policy Act 2005, p. 42. 22 “Package Deal.” 23 Ziegler, “The Energy Factor,” p. 12. 24 Gorst, “Icy Waters, Icy Relations,” p. 8. 25 Gorst, “Tougher Times for Investors,” p. 12. 26 Brower, “New Kid on the Block”; DOE, Energy Policy Act 2005. 27 See Ziegler, “The Energy Factor.” 28 Brower, “Power Games.” 29 Elder, “Investors Seek Calm in Kazakh Economy”; Auyezov and FerrisRotman, “Kazakhstan Confident in Oil Sector.” 30 Nichol, Central Asia’s Security, pp. 17-18, 37; Blank, “China, Kazakh Energy, and Russia,” pp. 99-109. 31 ICG, Central Asia’s Energy Risks, pp. 15-18; “Analysis: Turkmen Gas Deal.” 32 DOE, Energy Policy Act 2005, p. 5. 33 Tao, “Gas Pipeline Gets 16 Bln Yuan Boost”; Brower, “Blazing a New Path,” pp. 16-17; Eurasia Group, China’s Overseas Investments, pp. 16-17; “Analysis: Turkmen Gas Deal”; Richardson, “China and Russia Spread Their Influence,” p. 19; Lanteigne, “China’s Energy Security”; Neff, “RussianChinese Competition,” pp. 39-42. 34 Watson, “Turkmenistan,” p. 29. 35 Du, “Turkmenistan-China Natural Gas Pipeline.” This move is probably related to Russia’s recent postponement of a proposed pipeline from western Siberia to China due to disagreements on pricing and “other issues” as reported in “Altai Pipeline Delay.” 36 Gorst, “Struggle for Gas Intensifies,” p. 12. 37 Brower, “Russia Stays One Step Ahead,” p. 11. 38 Watson, “Turkmenistan: East Versus West.” 39 Lanteigne, “China’s Energy Security,” pp. 147-155.; Neff, “RussianChinese Competition,” p. 39.

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40

Gorst, “Struggle for Gas.” Brower, “Cartel Contradictions.” The U.S promises to fight the formation of a natural gas cartel, which espouses the need for a free market in energy. However, the U.S. opens itself to accusations of double standards as it protects its domestic ethanol through a duty of fifty-four cents per gallon on imported ethanol in a tax that will be retained at least through 2008. 42 Richardson, “China and Russia Spread Their Influence.” 43 Liao, “Central Asia and China’s Energy Security,” pp. 62-68. 44 Neff, “Russian-Chinese Competition,” p. 39. 45 Sheives, “China Turns West.” 46 “Sino-Russian Friction.” This competition between Russia and China over the energy resources of Central Asia is negatively affecting the interests of the energy-lacking states of Central Asia: Tajikistan and Kyrgyzstan. Turkmenistan, Uzbekistan, and Kazakhstan prefer to sell their energy resources to Russia, China, and other foreign buyers at competitive prices. As a result, Tajikistan and Kyrgyzstan face huge energy shortages due to their inability to buy natural gas and electricity at competitive prices. See Panfilova, “Tashkent Closes the Vent”; and “Kyrgyzstan Hopes to Reach Agreement with Turkmenistan.” 47 Beyond oil and gas, the Kazakhs plan a joint project with China to develop a $4 billion coal-fired power plant near the Russian-Chinese border. Kyrgyzstan also is interested in selling hydroelectric power to China. Tajikistan, too, is attracted by the Chinese market. See Olcott, “Eyes on Central Asia,” pp. 18-19. 48 Kenny, “China and the Competition for Oil and Gas,” p. 42. 49 Liao, “Central Asia and China’s Energy Security,” pp. 62-67. 50 Olcott, “Eyes on Central Asia,” p. 12. 51 Liao, “Central Asia and China’s Energy Security,” pp. 62-67; Umarov and Pashkun, Tensions in Sino-Central Asian Relations, pp. 4-6. 52 Swanstrom, “China and Central Asia,” pp. 577-579. 53 Umarov and Pashkun, “Tensions in Sino-Central Asian Relations,” pp. 46. 54 Zhao, “The Shanghai Cooperation Organization”; Olcott, “Eyes on Central Asia,” p. 14; Sheives, “China Turns West”; Chung, “China and the Institutionalization of the Shanghai Cooperation Organization.” 55 Harris, “China’s Regional Policies.” 56 Chung, “China and the Institutionalization of the Shanghai Cooperation Organization,” pp. 4-12. 57 Xu, “China’s Energy Security,” pp. 284-285. 58 “Sino-Russian Friction behind the Smiles.” 59 Man, “Western Response Muted.” 60 Daly, “Analysis.” 61 “SCO Leaders Sign Declaration on Security”; Man, “Western Response Muted.” 62 Gyosdev, “China, Russia Shaking Economic Status Quo.” See also “China, Russia Pledge to Deepen All-Facet Ties.” 63 “Dushanbe Declaration of Heads of SCO Member States.” 64 Larrabee, “Changing Leadership.” 65 Norling, “China and Russia.” 41

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66 Qin, “Relations with Russia to Be Strengthened”; Blank, “China, Kazakh Energy, and Russia.” Richard Weitz, in “Averting a New Great Game in Central Asia,” argues that Central Asia will become a unifying element in Sino-Russian relations because of shared economic interests. 67 Mingxin, “Medvedev”; Liang, “China, Russia Pledge to Maintain Global Energy Security”; “Hu Jintao Meets with Russian President Medvedev.” 68 See EIA, “China: Oil.” 69 Jaffe, “Beijing's Oil Diplomacy.” 70 Ziegler, “The Energy Factor,” pp. 577-579. 71 “Addicted to Coal and Oil.” 72 Brower, “Easing off the Gas.” 73 Brower, “Natural Gas.” 74 Eurasia Group, China’s Overseas Investments, pp. 15-17. 75 EIA, “World Proved Reserves of Oil and Natural Gas.” 76 Brower, “Natural Gas.” 77 Du, “China Encourages More Foreign Investment in Energy and Development.” 78 China has made these promises before, but implementation of change has been slow. However, the domestic energy imperative seems to cut through some of the bureaucratic red tape that has slowed such investments. Several government and quasi-government officials report that they have never seen China so serious about change in any other sector. 79 “Package Deal.” 80 Brower, “Asia Rising.” See also EIA, “China: Oil.” 81 Brower, “State Building.” 82 Olcott, “Eyes on Central Asia,” pp. 3-6; 17-19. See also Zhao, “The Shanghai Cooperation Organization”; and Nichol, Central Asia’s Security: Issues.” 83 Parry, McCreery, and Del Maestro, “Unocal a Bump in the Road.”

4 Pipeline Politics in East Asia Economically and in energy terms, Northeast Asian states, particularly China, Japan, and South Korea, are at the center of a dynamic and important relationship. Taken together, China, Japan, and South Korea represent some of the world’s leading economic drivers and also some of the leading energy users. Their common challenge has been to secure the needed energy resources to fuel their continued economic growth. The exponential growth in China’s energy demands led by rapidly rising oil imports has tightened the oil market. Because Japan and South Korea rely almost completely on energy imports to fuel their economies, they feel their dependence in a high energy price environment most acutely. With this comes greater sensitivity to geopolitical change. Particularly significant to regional stability is the historically volatile but centrally important Sino-Japanese relationship. Tensions linger over ongoing territorial disputes in the East China Sea and over the routing of the trans-Siberian pipeline. These and other sensitive issues, such as Taiwan’s status, raise mutual doubts about the future of regional cooperation.1 Even so, these states also are connected through a web of interdependent economic relationships in trade and investment terms that can provide a framework for shared energy interests as well as become a key to regional stability and prosperity. In this area Japan, in particular, has technology that China needs to continue to grow, while it needs China’s economic engine to maintain its own growth. Chinese sources argue that the 2007 “spring greeting” tour of Japanese prime minister Yasuo Fukuda helped Sino-Japanese relations enter a “newer,” “more comprehensive,” and “higher” development stage. Tangibly, both sides have agreed to develop strategic, reciprocal relations and have restored high-level political and military exchanges after years of suspension. President Hu Jintao was the first Chinese president in many years to visit Japan in spring 2008.2 Upon entering office in September 2008, Japan’s new prime minister, Mr. Taro Aso, argued that China (and South Korea) was an important partner for Japan and a country with which it must seek to “increase mutual benefits and shared interests.”3

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Despite these optimistic statements, however, there are competing tendencies of rivalry and collaboration between China and Japan. To evaluate China’s energy security approach in East Asia, we first look at the “energy reality” in the region, areas of geopolitical rivalry such as the decade-long competition for Russian energy resources and pipeline routing, as well as opportunities on the demand side in areas such as energy efficiency and conservation. Ironically, geopolitical and supplyside energy security analyses and economic interdependence and demand-side analyses break down neatly into “pessimistic” interpretations about potential conflict and a more “optimistic” interpretation based on shared interests in energy use issues, particularly energy conservation and the environmental consequences of fossil fuel use. In analyzing this dual-sided energy equation in Northeast Asia, one must also pay attention to China’s domestic energy context that includes its growing imperative for greater energy conservation. Three specific questions address the energy security challenge in Northeast Asia. What is the energy reality in Northeast Asia? What explains China’s energy diplomacy in Northeast Asia and what broad political and economic relationships shape energy security in the region? How do domestic policy drivers shape China’s approach to the region, particularly its relationship with Japan? A look at Northeast Asian energy realities first illustrates the challenges these states face and the bifurcated nature of the energy relationship China has with Japan. Energy Realities in Northeast Asia—What Is There to Fight Over?

On the surface, the increasing demand by states in the region but a corresponding dearth of energy sources presents a bleak energy equation in which China and Japan (as well as South Korea) share a host of energy vulnerabilities. Taken together, they are the second, third, and fourth leading energy consumers in the world. They lead the region in oil imports (Japan and South Korea are the leading natural gas importers) and top East Asia in terms of greenhouse gas emissions. By far, Japan and South Korea are the most dependent on energy imports. They rely on imports for over 80 percent of their energy use, while China’s major import vulnerability lies in its rapidly increasing oil demand. China is the second largest consumer of oil in the world after the United States, Japan is third, and South Korea eighth. China is also the world’s second-largest net oil importer after the United States, Japan is third, and South Korea is fifth. In 2002 China, Japan, and South Korea

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together accounted for 17.9 percent of total primary energy consumption in the world. Their combined share is projected to increase to 22.9 percent in 2025. There is no doubt that China’s increasing demand for energy tightens demand in the Northeast Asian energy sector. On the oil side, prices reached historic highs in 2008 and all three countries remain dependent on imports primarily from the Middle East. After the oil shocks of the 1970s, Japan and South Korea attempted to diversify their oil supplies and buy as much as possible from within the region (resources that are rapidly being depleted).4 This grim reality and China’s growing imports have made Russia’s resources particularly desirable. Given their close proximity to Russia’s far east, plus the possibility of a pipeline from western Siberia to the east, Russia has been a tempting energy source. Not only does Russia have significant oil reserves (estimated at 60 billion barrels), but it is also the world’s second-largest oil exporter at around 7 million bpd. Eastern Siberia has had little exploration to date, but it is estimated to have an additional 35 million barrels of oil. Further, Russia has the world’s largest reserves of natural gas, much of it yet to be tapped.5 To address diversification issues, Japan and South Korea also shifted significantly toward natural gas in their domestic energy mix. Because Japan has only minor offshore reserves and South Korea none, they import almost all of the natural gas they use.6 Thus, Japan and South Korea have well-developed natural gas markets and long-term import relationships with Southeast Asian producers. In China, natural gas accounts for only about 3 percent of its energy consumption, but its plans to increase that amount substantially in the near term increase the pressure on an already tight market. Natural gas has become attractive to Beijing because of its potential geopolitical availability and its status as a clean alternative source of energy. If gas use comes online in eastern China at expected levels, many believe that its domestic gas production will not keep pace with consumption. This means that there may be a Chinese run on natural gas, in the near future as there has been on oil.7 This is possible given that LNG prices have risen in an intensely competitive environment as liquefaction capacity has not kept pace with terminal construction or shipping capacity. There is increasing concern that there will be a shortfall in LNG output in the next several years.8 Demand for coal also may cause tensions. Although China is the largest producer of coal in the world, in January 2007 it became a net coal importer. Its demand pushes prices, and in 2005 there was a boom in steam coal prices that tripled the price to $93 per ton delivered over three years. Contributing to the cost are increasing demands for

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commodities that increase freight costs for coal and other goods. Most importantly, the China power market will continue to require huge amounts of coal (on average 48 gigawatts of new capacity every year, which is equal to two-thirds of Britain’s total installed capacity), much of it coming from imports.9 Japan and South Korea remain the globe’s two largest coal importers (steam coal for power generation in Japan and South Korea and coking coal for steel in Japan) and have little reserves of their own.10 China supplies around 21 percent of Japan’s steam coal imports (accounting for 31.2 percent of China’s total exports) and 35.9 percent of South Korea’s steam coal imports (accounting for 27.9 percent of China’s total steam coal exports). China also supplies 9.2 percent of Japan’s coking coal.11 These export numbers have declined since 2003 due to China’s own growing energy demand. Through 2030 coal use is expected to level off and decline slightly in Japan but to continue to increase in South Korea and China in the near term. Exacerbating the coal equation, China increasingly seeks imports from some of the same places as do Japan and South Korea, including Mongolia’s vast coal reserves and to the south in countries such as Vietnam and Australia, which tempt all three countries.12 These circumstances make Northeast Asia’s fossil fuel equation one of tight demand, high dependency, and growing vulnerabilities. For China, the immediate need is to seek energy resources while managing the rivalries that can potentially interfere with energy cooperation in other areas. Given their historical rivalry, the Sino-Japanese relationship is the core relationship to watch as a measure of the future stability and energy security in all of Northeast Asia.13 China’s Energy Diplomacy and Going Forth in Northeast Asia

While energy resources in Northeast Asia are limited, demand is not. When looking close to home, potential reserves in the East China Sea and Siberia draw the attention of states in the region. In recent years the East China Sea dispute has been the most contentious and pipeline politics the most frustrating. Sino-Japanese Rivalry in the East China Sea

During 2005-2006 Sino-Japanese political and security relations deteriorated, even as economic relations prospered. In particular, tensions flared over competition for gas fields near the Senkaku Islands in the East China Sea. Since the 1990s CNOOC has explored for oil and natural gas in the region, but its recent deep-sea drilling brought new

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tensions. The area sits at the border of the disputed exclusive economic zones of the two countries.14 Both China and Japan have tried to exploit the gas in the disputed waters. China’s most recent exploration near the area raised questions in Japan as to the limits of China’s moves in the competition for oil and gas in Asia. The debate flared up again because only in recent years has exploration become economically feasible.15 In 2007 China agreed to the idea of codevelopment, and the two sides agreed to seek a solution to the dispute. Progress was hindered for some time because this controversy is a domestic political issue in Japan (and China as well) and is linked to larger questions of sovereignty and political legitimacy. Chinese president Hu Jintao’s April 2008 visit to Japan led the way to move forward on the East China Sea dispute. Discussions that followed focused on joint development possibilities. In June 2008 China and Japan agreed to end the argument over offshore natural gas fields in the East China Sea. They plan to develop them jointly, with China taking the lead and Japan investing in the project. This represents a shift from emotion to pragmatism and a step down before a potential crisis. The effort to tackle such a sensitive issue was part of a broader effort on Japan’s part for friendlier relations leading up to the Beijing Olympics. The recent improvement was signaled by an agreement for the two leaders to exchange visits and by a Chinese destroyer making a first-ever stopover in Japan.16 Sino-Japanese Rivalry and Pipeline Politics

Russia’s rising energy nationalism and indecision over pipeline routing have caused tension between China and Japan.17 To date, neither of the competing projects proposed to send oil to China or to Japan has been built. For nearly a decade Russia has played a shell game over pipeline routing, which has pitted China against Japan (and others) in a bidding war for Russia’s energy. The most significant dispute has arisen over China’s proposed 2,300 km pipeline from eastern Siberia to China’s east coast. This project has been on and off since 2001, when China first negotiated it with Russia’s energy giant Yukos. The project agreed to by Russia and China was to route the pipeline from Angarsk in western Siberia to Daqing in China’s northeast (see Figure 4.1). Estimates are that it will deliver up to 400,000 bpd each year—at that time this was 12 percent of China’s consumption. Yukos’s chairman at the time, Mikhail Khodorkovskii, signed a second agreement in 2003 with CNPC to increase future oil

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exports to China to 600,000 bpd. Russia would finance most of the estimated pipeline cost of $2.9 billion, while the Chinese would finance pipeline construction through its territory. In the meantime, Yukos agreed to transport oil by rail from Angarsk through Mongolia to China. However, Russia’s domestic politics changed the deal. When Russia’s internal politics pitted President Vladimir Putin against oligarchs such as the Yukos chairman, the fight led to Mikhail Khodorkovskii’s arrest. There was a resulting shift in the Kremlin’s policy to give preference to a competing Japanese proposal for a 4,200 km pipeline from Taishnet to Nakhodka on the Sea of Japan. Putin preferred the more expensive Japanese route because it promised access to wider markets in the Asia-Pacific region and got a bigger Japanese financial package for Russia’s energy development. In September 2004 Chinese prime minister Wen Jiabao tried and failed to get the Russians to keep the Yukos deal alive. China, particularly, felt betrayed because its banks already had provided Russia with $6 billion for the purchase of Yukos’s assets. As a concession Moscow offered Beijing a 20 percent share in one of Yukos’s oil-producing subsidiaries, Yuganskneftigaz. The Japanese plan gained temporary advantage because it had more funding (including for projects in eastern Siberia), had proven technology, and offered a diversified market that included Japan, China, South Korea, and the United States. Japan’s financial package provided $7 billion in loans via the Japan Bank for International Cooperation, $5 billion for pipeline construction, and $2 billion to explore new oil fields in eastern Siberia to boost production for the Nakhodka route to at least 1 million bpd annually. In terms of commercial benefits, the Nakhodka route would reduce dependence on the Chinese market, while the China route would allow China to reexport Russian oil to other states in the region (while importing Kazakh oil for domestic needs and profiting from the price differences). To placate the Chinese, when Vladimir Putin decided in favor of the Japanese pipeline route, he announced that a new branch line would be built to Daqing. Thus the Chinese branch line would go first was because it was quicker and less expensive to construct. In response, Japan warned that its funding was contingent on constructing the Nakhodka line first. Russia’s plan to grow its supply of energy to Asia from the 2006 level of 3 percent of oil and gas exports to 30 percent over the next ten to fifteen years seems unlikely to be successful. The efforts to secure the trans-Siberian route and other agreements with Russia, such as a 3,700 km pipeline between the Kovykta gas fields north of Irkutsk and the Chinese port of Lianyunggang, have yet to bear fruit.18 Despite Russia’s optimistic assessments that oil and gas will soon flow, only the first

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250 km of the pipeline have been built. The first leg (phase 1) of the pipeline to China was set for completion in 2008. A Eurasia Group report predicts delays in the second phase of the pipeline to Nakhodka on the Sea of Japan due to the need for more economic justification— namely, that exploration in eastern Siberia has to produce the volumes to fill the line. Moscow has yet to provide firm completion dates for the gas lines to China or for either phase of the trans-Siberian line. 19 Completion of the $11 billion pipeline from eastern Siberia to the Pacific Ocean depends on overcoming the cost challenges and technical difficulties as well as unresolved sourcing, pricing, and destination issues. It may cause new problems as any diversion of oil east may curtail shipments to Europe.20 Japan is likely to keep up the pressure to get its piece of Russia’s oil and gas pie. It sees the pipeline as part of a long-term energy collaboration with Russia that complements its previous investments in Russia’s energy sector. For example, Japan’s Sakhalin Oil and Gas Development Company has a 30 percent stake in the Sakhalin-1 oil and gas project that began operations in October 2001. Other Japanese companies have a 40 percent share in the Sakhalin-2 project. Chiyoda Corporation and Tokyo Engineering have a $2 billion contract with their Russian partners to construct an LNG plant at Prigorodnoye as part of phase 2 of the Sakhalin-2 project.21 From China’s perspective, a decade ago Russia seemed to be a complementary partner for its booming economy. China would get the energy it needed, and closer integration with China would revive the economies of Russia’s far east and Siberia. However, Russia’s energy exports to China have not met expectations. In lieu of pipelines, the crude oil that goes to China is sent by Rosneft (Russia’s governmentowned oil company) by rail. In 2005 Russia supplied China with about 160,000 bpd of crude, making it China’s fifth-largest energy supplier. Any natural gas deliveries are pending pipeline construction as well. 22 Although China has been notorious in seeking lower prices, new life may come to Russia-China gas deals because China has begun to pay market prices in Southeast Asia, and this may give Russia a new incentive to negotiate to export up to 68 billion cm/y of gas to China. The first exports to China could be by pipeline (if completed) or by tanker. Despite these signs of discontent, Sino-Russian trade has shown dramatic increases in recent years. Hu Jintao argues that the positive state of the relationship has reached “unprecedented levels,” while Vladimir Putin pledged to enhance coordination between the two countries in regional and global affairs.23 Still, the anticipated special energy relationship has not developed.

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China seeks to invest more money to secure greater oil and gas exports despite growing uncertainty that Russia will become a reliable supplier. Unlike the oil majors and Japanese companies, China has had more difficulty securing upstream assets in Russia. Mixed Results in China’s Upstream Investment in Russia

China’s efforts to buy stakes in Russia’s upstream energy sector have had only limited success. In its energy deals, Russia has become proprietary of its energy and been able to leverage better deals vis-à-vis foreign NOCs and IOCs. China competes with others in an environment in which Russia has changed the investment rules. Russian behavior is energy nationalism at its best. For example, in 2004 CNPC tried but was prevented from bidding for Slavneft (a Russian/Belarus company involved in areas from exploration to sales of final oil products). In 2006 CNPC sought to invest $3 billion in Rosneft’s initial public offering but was allowed only $0.5 billion worth of shares (which was half the amount secured by BP and Indonesia’s Petronas).24 Previously, CNPC had been kept from participating in the bankruptcy sale of Yukos's main production subsidiary, Yuganskneftegaz. Rosneft, which bought Yuganskneftegaz with an unchallenged $9 billion bid, however, used a Chinese loan to help pay for the acquisition. In return for the help, Rosneft pledged to supply China with the equivalent of 976,000 bpd of crude a year by 2010. Deliveries totaled one-tenth of that in 2005.25 China’s long-awaited position in the Russian oil sector came in June 2006 when Sinopec bought Udmurtneft, a subsidiary of TNK-BP (which is the result of a merger of BP’s Russian oil and gas assets and the assets of Alfa, Access/Renova group) at far above the market value. The price was $3.5 billion, or $2.5 billion over the starting price. The day after Sinopec was named the winner in the bidding, Rosneft announced that it planned to purchase 51 percent of Udmurtneft in an agreement with Sinopec. Sinopec would finance the Rosneft purchase and would be reimbursed through money made by Udmurtneft. China’s acquisition of 49 percent of the company was the first tangible breakthrough for a Chinese NOC to purchase assets in the Russian oil industry. Rosneft’s 51 percent position could be useful if Sinopec wants to acquire more oil and gas deposits in Russia. Rosneft now has a well-connected partner, and licenses for strategic projects are now limited to majority Russiancontrolled firms. For China, the sale eased some of the frustration that came with the lack of progress in broader energy cooperation with Russia.

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The fact that the Sinopec-Rosneft deal went through when others failed is likely due to Russia’s realization that it had to “give something” to keep the Sino-Russian strategic partnership viable. In return, Moscow simultaneously gained Chinese financing for acquisition of Yuganskneftegaz. The deal involves no financial risks from Rosneft’s side, plus a payment to the Russian company. Russia follows a strategy to let Beijing provide the financing to invest in its aging stock and infrastructure while Moscow maintains the majority share.26 China got two additional licenses with a combined 180,000 bpd of oil and 105 billion cm of gas in September 2007 in acreage near the proposed pipeline route. Pessimists are unconvinced that the pipeline or the protocol signed by Gazprom and CNPC in Beijing, outlining plans for the export of up to 80 billion cm/y of Russian gas to China by 2011, will come to anything. There are general questions whether Gazprom has enough production to feed volumes for China’s future gas needs and to meet its commitments to Europe.27 IOCs operating in Russia also must make concessions to partner with Russia’s oil companies or Gazprom to develop Russian oil and gas fields. For example, to develop the Shtokman gas field, the French firm Total agreed to hold only 25 percent of the company but still to manage and develop the infrastructure in the Barents Sea gas field in order to get access to Shtokman reserves in return. It also agreed that after twentyfive years its stake would revert to Gazprom, which would hold 100 percent of the Shtokman license and marketing rights. Others before, such as Shell and BP, have surrendered control of their gas fields to Gazprom in exchange for a license to operate and export LNG in order to end Moscow’s threats.28 Companies have been forced to renegotiate their initial productionsharing agreements. For example, Shell's original contract to develop Sakhalin fields was based on a favorable PSA that the company signed with Russia when oil prices were low. In the 1990s Russia needed the help of the IOCs to master technically demanding and high-cost projects in seas that freeze over in the winter. However, sustained high oil prices made the PSA terms look like a mistake. When Shell claimed that the cost of the project had doubled to around $20 billion, which in turn would delay the date when Russia would start to make money from its own reserves (under PSA terms, investors are entitled to recoup costs before paying out revenues to the state), the Kremlin pushed for change. A new $7.45 billion Sakhalin deal gives Gazprom valuable exposure to the LNG business. In addition, with 9.6 million tons (12.8 billion cm equivalent) of LNG exports by train per year, the Sakhalin deal will

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account for around 8 percent of the world's LNG demand (one third of this amount per year is committed to Japanese companies).29 These “deals” and others show that the balance of power in this region has shifted from the commercial to the public sector in producing states. Increasingly the Kremlin has the upper hand with the oil majors and NOCs. As a result, Chinese and other companies may expect to remain junior partners in any deals as Russia regains the top position in its energy sector at least in the near term. There are limits to the access Moscow is willing to give foreign players in its domestic industry.30 A closer look at the trade side reveals the one-sided nature of the bilateral relationship that favors China. It reveals a possible source of Russian insecurity vis-à-vis China. In 2007 Sino-Russian trade grew to more than $48 billion (the goal for 2010 is for $60-80 billion), but this was fueled largely by China’s exports to Russia rather than the reverse. China is Russia’s fourth-largest trading partner, while Russia has become eighth for China. Although $60 billion is only one-fifth the value of Sino-American trade at 2007 levels, the amount illustrates China’s move to diversify its trading options.31 Russia has developed a deficit of $8.8 billion with China, and crude oil, oil products, and timber account for two-thirds of Russian exports to China.32 Russia also needs China’s arms purchases to keep its arms industry afloat. Rather than the close relationship that some anticipated, Russia may fear its rising dependency on China. The pipeline picture, which shows Russia’s vacillation between Chinese and Japanese plans for pipeline routing, demonstrates Moscow’s uneasiness. Although Russia increasingly reorients itself toward Asia in its long-term energy planning, it plays an energy game between China and Japan. Its energy interests relate to two main objectives. First, it seeks to diversify energy exports, particularly to access new oil and gas markets in the Asia-Pacific region. To date, most of Russia’s exports go to the European market (more than 80 percent of oil and 60 percent of natural gas exports). Second, Russia would like to diversify energy production opportunities in capital-intensive environments, including eastern Siberia, the far east region, and the Arctic, which require an infusion of foreign capital, particularly from Asia.33 Within Japan a debate rages over whether China’s changes are benign or represent a threat to Japan’s security. Japan’s growing concern over China’s military buildup has led to a hedging strategy. Japan has strengthened its alliance relationship with the United States, and it engages in bilateral consultations with the U.S. over the Taiwan situation. The potential that China’s energy security needs could fuel military modernization remains a concern for Japan and the United

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States. This path would mean China developing greater naval capabilities to protect the sea-lanes.34 Already it has developed better diplomatic relations and access to ports and airfields in Southeast Asia and modernizes its forces, ostensibly, to better secure South China Sea transportation corridors.35 For its part, China argues that Japan’s closer ties to the U.S., attempt to revise its constitution, and efforts to build up its self-defense force challenge East Asian stability.36 The Economic and Political Context of China’s East Asia Energy Security Policy

Beijing and Tokyo sit prominently within each other’s overall economic, diplomatic, and strategic considerations. Since World War II, this volatile relationship has had many ups and downs, with symbolism and rising nationalism on both sides playing an important role. For example, each time Japan’s prime minister visits the Yakasuni shrine (where Japan’s war heroes and war criminals are buried) there are vast antiJapanese demonstrations in China. These visits triggered a political stalemate between 2001 and 2006 and prevented both parties from building mutual trust and facilitating cooperation. There were no summits in this time frame, and negotiations over the East China Sea were stymied. Things began to thaw when Yasuda Fukada became prime minister. After he said that he would not visit the Yakasuni shrine, high-level meetings resumed in November 2007.37 The new president, Taro Aso, inaugurated in 2008 is likely to follow Fukada’s example. In the context of China’s receipt of billions of dollars in aid, many Japanese wonder when their war reparations will be done. China was the number one recipient of Japan’s aid for decades, and while this has slipped in recent years, China was still the number two recipient of Japan’s overseas development aid (ODA) behind India as late as 2004.38 Japan’s initial aid to China was connected to an energy security policy that linked Japan to China’s future modernization path. Its initial lowinterest loans in the form of ODA to Beijing provided foreign capital for China’s modernization and benefited Japan by supporting large infrastructure projects that expedited China’s export of coal and oil to Japan. China supplied Japan with low-cost crude from its Daqing oil fields until 2004, when the two sides could not agree over the price. 39 Today this energy cooperation extends to extensive coal exports (discussed previously) to Japan and collaboration on the energy conservation and environmental sides. However, Japan’s development assistance to Beijing is largely over. Tokyo sees Beijing’s hosting of the

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Olympics as a milestone representing that China has become a developed state and, as such, no longer needs development assistance. However, many see Japan and China, despite their growing economic links, as geopolitical rivals in terms of regional leadership. 40 For example, a political debate rages inside Japan over the appropriate political response to its energy dependency. According to Peter Evans of the Brookings Institution, Japanese policymakers seeking answers to the energy challenges posed by China vacillate between two camps—energy nationalism and energy internationalism. In 2006 it appeared that Japan’s harder-line energy independence position—that markets cannot be trusted and the government must act more aggressively to protect the country’s energy mix—had won out.41 In fact, Japan’s New National Energy Strategy (NNES) of that year prioritized unilateral tools to establish energy security measures. It also supported pursuit of more equity production, such as China’s “go forth” approach, by using available diplomatic tools and greater development assistance and economic cooperation to forge ties with producers. This perspective is why Japan goes head-to-head with China in eastern Siberia over Russian resources, competes for sovereignty over East China Sea resources, and vies across the globe for energy supplies following a similar strategy.42 Others emphasize Japan’s continued focus on sustainable development that defines energy security in both development and environmental lenses, as well as commits it to assist China and others to address growing energy challenges. Strengthening energy and environmental cooperation is an often ignored but important leg of an energy policy with goals to improve efficiency and to reduce dependence on petroleum. In its foreign policy activities in relation to energy security, Japan competes with rivals such as China and cooperates on expertise and conservation technology.43 The future pattern of behavior will depend on the analysis of China’s intentions but also on how China reacts to Japan’s efforts to treat it as a developed rather than a developing state. Sino-Japanese Interdependence and Trade Relations

Many incentives remain for the two states to collaborate. No two economies are more interconnected than those of China and Japan; in fact, Japan’s economic upswing in the last two years was due to increasing trade with China and the overall strength of China’s economy. In 2006 China’s trade with Japan hit $207 billion, up 12.4 percent from 2005, and this number has more than doubled since 2002. Much of this increase is in machinery and electronic products. Japan

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remains China’s third-largest trading partner after the European Union and the United States. China has been Japan’s largest trading partner since it overtook the United States in 2004 and accounts for 13 percent of Japan’s total trade.44 As Japanese investment in China continues to grow and two-way trade increases each year, many see trade as the solid basis for warmer political ties to be sustained.45 Gradually a regional multilateral setting has developed to foster cooperation in trade. Beginning in 1999, the leaders of China, Japan, and South Korea (at China’s behest) began to meet in a trilateral summit on the sidelines of the ASEAN summit to try to coordinate closer trade and environmental ties. At the fourth trilateral summit in 2002, a new initiative was launched by the Chinese to promote closer economic cooperation and a free trade zone between the three states. The proposals failed to get Japanese enthusiasm, however, and lapsed. In 2003 the joint declaration included trade and investment, environmental protection, and a reaffirmation of the commitment to peaceful solutions to the North Korean crisis. By 2007 the three countries again moved toward formal negotiations over a trilateral investment treaty.46 Bilateral meetings of top leaders (December 2007 and April 2008) restarted, and other meetings, such as the China-Japan strategic dialogue, foster cooperative mechanisms across various fields from the highest levels to the working level.47 Such meetings move forward, in part, due to China’s need for continued investment across the country, particularly to clean up its dirty development practices. Cooperation with China on trade and on issues such as energy savings continued despite the lull in broader relations in 2005 and disputes over the East China Sea. Through the efforts of Japan’s Ministry of Economy, Trade, and Industry (METI), a new Energy and Environment Forum was formed. The forum first met in May 2006 in Tokyo with a specific focus on energy efficiency and environmental protection and the goal for China to learn from Japan’s experiences— especially lifting energy efficiency through law, taxation, education, and pricing practices. Japan’s then economy, trade, and industry minister Toshihiro Nikai commented that Japan survived two energy crises since the 1970s because it had built an energy-saving and environmentally friendly society. China’s ambassador to Japan, Wang Yi, noted the advantages of following Japan’s path, saying that “[i]ncreasing exchanges on the (energy and environment) fields would open new areas of cooperation for China and Japan and help forge new common interests for the two countries” to improve relations during difficult political times.48 China saw the forum as an opportunity to further

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develop the win-win relationship between the industries of the two countries. The major goal has been to integrate China into the global energy marketplace. Japan and the U.S. Department of Energy argue that the greatest success with China comes with a focus on capacity-building to “encourage market-based pricing in these countries as a prerequisite for energy conservation and efficiency and investment in conventional and alternative energies.”49 Japan’s government specifically has encouraged China’s government to lift price subsidies and to promote a rational pricing mechanism in energy.50 Beijing claims that China will “inject reality” into its consumer policies and allow the market to set energy prices in order to increase efficiencies in the energy sector. For example, the government has agreed to raise petroleum products prices, and the NDRC announced in November 2007 that domestic gas prices were seriously undervalued when compared to international prices. 51 Domestic gas prices were raised again in summer 2008. Foreign investments in China’s energy efficiency are seen by some as an investment in Japan’s and the globe’s future energy security. Promotion of “best practices” conserves energy that everyone needs and links China more closely to the market system and international norms and practices. However, as the debate over the pipeline project illustrates, Japan remains uncertain and follows a hedging strategy. Japan tires of China’s demand for aid and waits for the day that it considers itself a developed country. Further, cooperation among all stakeholders, particularly local government and industry, is needed to coordinate and help broaden development and deployment of conservation and energy efficient projects. The Second China-Japan Forum on Energy Conservation and Environmental Protection in September 2007 aimed to construct a stronger technology transfer system between the private enterprises of both sides. The focus was on the sectors of electricity, automobiles, electric machinery, energy-saving policies, energy-efficient buildings, and long-term Sino-Japan trade agreements. This gathering was the first ever ministerial-level meeting on energy.52 According to insiders, relations with China continued to improve across 2007 because Akira Amari, then minister of economy, trade, and industry, had a more positive view of China and reportedly good relations with his Chinese counterparts. In December 2007 Japan proposed a joint fund worth $1.8 billion with China to help Beijing increase its environmental protection efforts. This was to be achieved through the extension of low-cost loans to small and medium-sized Chinese firms so that they could set up wastewater treatment and pollution-prevention facilities.53 In May 2008,

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in a new joint document, the two states developed a plan for a deeper bilateral economic and trade relationship. The document also emphasized the need to step up joint cooperation in the areas of energy resources and environment.54 Other efforts link the business sectors of each economy to promote greater energy efficiency. Energy Service Companies (ESCOs) in Japan’s private sector have developed a new business model to promote energy efficiency in China’s existing buildings and small factories. ESCOs promote efficiency by removing the risk and cost of a project for the target company by providing the funds to deploy energy-saving technology.55 For example, the Japan Association of Energy Service Companies (JAESCO) and China’s Energy Conservation Service Industry Association jointly hosted the second Asia ESCO Conference in September 2007 (with sponsorship from METI, the NDRC, and the Japan Bank for International Cooperation) to foster shared experiences and to discuss ESCO lessons in other countries.56 Because companies can be reluctant to undertake costly energy retrofits, the government’s role is to incentivize this behavior. Retrofits involve installing technology such as high-efficiency lighting, air conditioners, boilers, and waste heat recovery systems for commercial and public buildings, industrial plants, and other facilities.57 The World Bank and the U.S. Lawrence Berkeley National Lab (LBNL) have sponsored similar programs. Each program emphasizes market-based mechanisms to promote efficiency with only initial government funding for energy audits, efficiency standards for appliances, labeling, and prefeasibility studies targeting specific industrial sectors. The cost-effective retrofits that ESCOs help provide can reduce energy use by at least 25 percent, and advanced technologies can reduce the growth of energy use by another 10 percent by 2030. In 2005 alone, China's new ESCO industry put into place over three hundred energy-efficiency projects representing an investment of over $200 million, which saves the energy equivalent of 2.46 million tons of standard coal.58 China’s Energy Policy Drivers—The Domestic Side of the Northeast Asia Energy Approach

As the discussion above illustrates, it would be a mistake to focus only on geopolitical competition over energy when trying to understand SinoJapanese energy relations and the broader equation in Northeast Asia. In fact, Japan provides a favorable development model for China on the demand-side due to its experience in energy conservation while

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maintaining steady economic development. Due to its own economic success, China is home to major energy-intensive industries that need to be modernized. Chinese leaders recognize that cutting energy waste is the cheapest, easiest, and fastest way to solve many energy problems, improve the environment, and enhance both energy security and economic development. Success requires that such programs extend across China to tap huge potential energy savings through thousands of small projects. Making tangible progress, however, requires supporting energy-efficiency practitioners and commercial banks to foster local financing for such projects throughout China.59 China takes energy savings seriously because by 2030 it will more than double its energy use. Beijing has new rules in place to promote a “conservation society” and (as explored in chapter 6) a specific commitment to improve its energy intensity by 20 percent by 2010. This makes China’s leaders hungry for lessons they can learn from and implement to promote energy efficiency.60 China represents a market for Japan’s conservation technology, and long-term investment may facilitate this. Japan has the expertise and some of the investment dollars that China needs to attain its energyefficiency goals. The problem is that the technology needed to achieve these goals is expensive—that is, acquiring energy-efficient equipment, appliances, and machinery and metering and labeling the projects, for example. Japan has provided conservation assistance, and Japanese companies are the first point of sale for energy-efficient equipment in China.61 Japan’s aid has been an effective mechanism to transfer environmental technology to China. Japan has been the largest bilateral provider in environmental protection to China which reflects the number one priority such aide has been in its ODA budget.62 Both Japan (and the U.S) have a great deal of expertise to offer in a range of energy technology fields.63 These efforts have a broader purpose to further link China to responsible, market-based policies and energy use. However, to address energy conservation in the long term, China must move its economy away from energy-intensive industries. This requires structural adjustments in its economy in terms of what China produces and how energy is used. This is a difficult task, given the decentralized nature of the Chinese state and provincial control over implementing economic growth plans. However, taking the policy beyond a few east coast cities is the real challenge. Implementation is a city-by-city challenge because municipalities are in charge of sectors such as heat, reform, and enforcement. International partners have the greatest chance for success where they have municipal experience. In this vein, ties between Japan’s local governments and China’s provinces

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are useful to develop. Already many Japanese local governments have opened offices seeking business for local companies to facilitate cooperative projects. With these ties, Japan’s subnational governments offer a range of assistance to Chinese counterparts in a kind of local ODA program in areas as diverse as city planning, transportation, curbing industrial pollution, and environment management. These ties are used to transfer expertise and largely are welcomed by China.64 Making the economy more efficient in China is a difficult task because consumer practices and energy use have changed considerably in the last twenty-five years. For example, in 1980 China produced fewer than 50,000 refrigerators, 200,000 televisions, and 250,000 clothes washers. By 2001 China was the biggest appliance producer in the world, with refrigerators and clothes washers exceeding 13 million and color televisions reaching 40 million. With this increase in appliance production and ownership, there has been on average a 16 percent increase in household electricity use each year since 1980. To curb this growth, China has put in place one of the most thorough appliance energy-efficiency standards programs in the world. China has issued minimum efficiency standards in many areas, including for fluorescent lamps, room air conditioners, and small and medium motors. The country plans standards for televisions, central air conditioners, water heaters, and gas appliances as well as the revision of the existing refrigerator and room air-conditioner standards. For example, in 1998 the government established the China Certification Center for Energy Conservation, which administers a voluntary endorsement labeling program. This helps to inform Chinese customers which products they use are most efficient. With both energy use and interest in energy efficiency on the increase in China, there is a clear opportunity for cooperation with China from Japan, the U.S., or other entities.65 Soichi Itoh argues that the Chinese and Japanese have slowly found common interests and made important links resulting from these business opportunities and environmental countermeasures. He believes that these links have made it difficult for Russia to drive a wedge between the two. From this perspective, proactive engagement on energy issues in the Asia-Pacific region makes zero-sum analyses less able to explain the energy equation in the region.66 Conclusion

The energy reality in Northeast Asia demonstrates potential for competition and collaboration. Looking specifically at the Sino-Japanese relationship, there is evidence that it is complex and still evolving. When

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energy is discussed in bilateral and multilateral forums and kept separate from emotional historical issues, the context is favorable for energy collaboration and efforts to minimize the inevitable competition between the two states. Managing potential crises is an important first step in stabilizing the relationship. On the energy supply side, however, there are lingering tensions. With uncertainty over future Russian supplies, the two states remain in direct competition. Emphasizing causes of tension, Kenneth Lieberthal and Mikkal Herberg argue that China’s domestic energy supply-demand gap sparks energy security to be framed within China as an issue of high politics and national security rather than just the low politics of domestic economic policy.67 As we have seen, more energy is needed from diversified supplies and/or domestic conservation. The lingering question raised from this discussion is how the SinoJapanese relationship can be seen in the context of both opportunities and challenges in terms of energy security. China and Japan have competed, but there are synergies that can bring the consumers together vis-à-vis mutual energy needs. Securitizing energy interests means that the economic value from cooperation gets diminished in foreign-policy decision-making communities.68 However, by focusing on the conservation side of energy security, we can see that the relationship is more nuanced with tendencies toward competition and cooperation existing simultaneously. The simple fact is that both countries are big powers in a small neighborhood and that a certain amount of competition is inevitable. Even so, if this competition is handled well, these competitors can enhance their bilateral and multilateral ties. From a domestic politics perspective when focusing on the demandside of the coin, China’s central government sees cooperation with Japan as essential if China is to meet its energy-efficiency and development goals. China needs continued external investment and technology to make its energy usage more efficient. As chapter 6 will illustrate, this means adopting conservation strategies and practices that may limit its future growth. The lingering problems of a weak central government and local power centers make implementation a challenge. Chapter 5 continues with a discussion of China’s competing energy priorities by focusing on China’s policy in Southeast Asia and SinoJapanese competition for resources in this region. As will be revealed, this area is vital to Northeast Asia’s energy security, in that it sits on the major transport corridors for imported energy and is a major source of natural gas. Part of the developing picture in Southeast Asia includes the efforts on the part of ASEAN states to develop their own identity

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independent of China or Japan and the rise of India as a player in the region.

1

Zhang, “PRC Scholar Discusses Issues.” Li and Bai, “China Practices the Concept of ‘Harmony.’” 3 “The Prime Minister Delivers an Address.” 4 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 74-77. 5 EIA, “Country Analysis Briefs: Russia—Oil Exports.” 6 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 74-77. 7 Kenny, “China and the Competition for Oil and Gas,” p. 38. 8 Cragg, “Quake Poses Unclear Questions for Japan.” 9 Ritschal and Schiffer, World Market of Hard Coal, p. 16. 10 Yoshimatsu, “From Distrust to Mutual Interests?” 11 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 77. 12 Ritschal and Schiffer, World Market of Hard Coal, p. 16. 13 Although not discussed here, many see the six-party talks with North Korea as a crucial measure of the Sino-Japanese relationship and important for future energy cooperation prospects. As Japanese hostility toward North Korea grows, particularly over the abductee issue, China has been frustrated that progress has slowed. Further, Japan has balked at offering fuel-oil shipments to North Korea in return for denuclearization without a solution to the abduction’s issue. 14 Jiang, “East Asia’s Troubled Waters”; Choo, “Energy Cooperation Problems in Northeast Asia,” p. 100. See also Sutter, “Why Rising China Can’t Dominate Asia,” pp. 117-118; Harris, “China’s Regional Policies.” 15 Kenny, “China and the Competition for Oil and Gas,” p. 39. Japan also has an ongoing dispute with the Koreans over ownership of some rocks in the Sea of Japan known as Dokdo (in Korean) and Takeshima (in Japanese). Despite economic interdependence and billions in trade at stake, there is a mix of historical animosity, national pride, and a battle over resources under way. See Beck, “East Asia’s Troubled Waters.”. 16 “True or False of China’s 'Present'”; Fackler, “China and Japan in Deal”; Ji, “Successful Year for Asian Diplomacy.” 17 Lieberthal and Herberg, “China’s Search for Energy Security,” p. 23. 18 Buszynski, “Oil and Territory,” pp. 289-299. 19 See, for example, Eurasia Group, China’s Overseas Investments, p. 14. 20 Gorst, “Gas Market Coming of Age.” 21 Buszynski, “Oil and Territory in Putin’s Relations,” pp. 294-299; Wingrove, “Construction Delays Set to Postpone Sahkalin Oil.” 22 Liu, “Putin Confident of Energy Co-op with China.” 23 “Russia-China Trade Growing Fast”; Brower, “LNG Deals Hint at Tactical Shift.” 24 “Russia.” 25 “Russia Chumming up to China.” 26 Norling, “Russia’s Energy Leverage,” pp. 34-45; Eurasia Group, China’s Overseas Investments, p. 13; Liao, “Central Asia and China’s Energy Security.” 27 “Russia”; “Russia Chumming up to China.” 2

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28

Brower and Nichols, “Going, Going … Gone.” Brower, “State Building,” p. 14; Gorst, “Icy Waters.” 30 See, for example, Norling, “Russia’s Energy Leverage.” 31 Gyosdev, “China, Russia Shaking Economic Status Quo.” See also “China, Russia Pledge to Deepen All-Facet Ties.” 32 “Russia-China Trade Growing Fast.” 33 See Choo, “Energy Cooperation Problems in Northeast Asia,” p. 101. 34 Lieberthal and Herberg, “China’s Search for Energy Security,” p. 23. 35 For further discussion of China’s influence in Southeast Asia, see Pehrson, String of Pearls. 36 Information Office of the State Council, PRC, China’s National Defense in 2006. 37 Liao, “Sino-Japanese Security and Regional Stability.” 38 Jain, “Japan to Shift Aid Focus from China to India.” 39 Jiang, “East Asia’s Troubled Waters.” 40 Harris,“China’s Regional Policies.” See also, Sutter, “Why Rising China Can’t Dominate Asia.” 41 Evans, Brookings Foreign Policy Studies Energy Security Series: Japan, pp. 1-2. 42 Ministry of Economy, Trade and Industry of Japan (METI) “New National Energy Strategy.” 43 Choo, “Energy Cooperation Problems in Northeast Asia,” p. 100. 44 “Role Reversal in Sino-Japan Trade.” 45 “China’s Trade with Japan”; Jain, “Japan to Shift Aid Focus.” 46 “Abe to Hold Trilateral Talks.” 47 Li, “Experts.” 48 Hui, ed., “China, Japan Start Forum.” 49 DOE, “United States-Japan Cooperation on Energy Security”; The author’s discussions with experts and government officials in Washington, DC, October-December 2007 confirmed this discussion. 50 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 86. 51 Brower, “LNG Deals.” 52 Han, ed., “Beijing to Host 2nd China-Japan Energy and Environment Forum”; “China, Japan Enhance Ties in Energy Conservation.” 53 “Japan, China to Set up Environmental Fund.” 54 Wenzhao, “Launching a New Era in China-Japan Relations.” 55 Murakoshi, Nakagami, and Masuda, “Detailed Analysis of the ESCO Market in Japan.” 56 See Japan Association of Energy Service Companies, http://www.asiaesco.org/. 57 “Cutting Energy Waste Crucial.” 58 See Sinton, Stern, Aden, and Levine, Evaluation of China’s Energy Strategy Options; China Energy Group, Energy Service Companies. 59 “Cutting Energy Waste Crucial.” 60 Author discussions with China experts and U.S. government officials, Washington, DC, October-December 2007. See also “Cutting Energy Waste Crucial.” 61 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 84-85. 62 Economy, The River Runs Black, pp. 186-192. 29

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63

DOE, “United States-Japan Cooperation on Energy Security.” See Jain, “Japan to Shift Aid Focus.” 65 “Berkeley Lab’s Energy-Efficiency Partnership with China”; Cao, “Efforts of the Chinese Government.” 66 Itoh, “China’s Surging Energy Demand.” 67 Lieberthal and Herberg, “China’s Search for Energy Security,” p. 13. 68 See, for example, Choo, “Energy Cooperation Problems in Northeast Asia.” 64

5 Challenges and Opportunities in Southeast Asia and Beyond Southeast Asia has been important to China and Northeast Asia’s energy equation both historically and in recent years. Despite the region’s decline in oil exports, this producer-consumer relationship remains in place today because abundant LNG has given Southeast Asia new resource wealth. In geopolitical terms, Southeast Asia is home to some attractive resources, vulnerable transportation routes, and a new robust competition for regional resources. Simultaneously, however, there has been a rise of regionalism among states, which has led to growing efforts to find common ground that specifically redefines energy security to include common development priorities and seeking energy conservation strategies. In terms of regional leadership, until the mid-1990s Japan was the undisputed economic leader and energy user in Southeast Asia. However, China has stepped in to become the new player on the block and increasingly challenges Japan’s regional leadership roles. Through its “go forth” policy, China forges closer political and economic ties with its neighbors. For Southeast Asia, these circumstances contrast the historic donor of development aid (Japan) with the rising opportunity that China represents.1 Although Japan leads by measures focusing on the overall value in investment and aid to the region, China has the momentum. By 2002 Chinese firms had set up seven thousand new businesses abroad—most visibly in East and Southeast Asia—while Japan’s investment declined. China’s investment abroad took the form of mergers and acquisitions with an increase from $60 billion in 1990 to $1.04 trillion in 2002. As purchases by Japan, South Korea, and Taiwan decreased, China became the fourth-largest player in Asia after Japan, Hong Kong, and Singapore.2 However, states in the region also seek to avoid too much dependence on either China or Japan.3 As China fills the gap created by Japan’s recent economic stagnation and the United States’ postSeptember 11 policy that emphasizes the war on terror to the detriment of other aspects of the relationship, China becomes a focus of regional concerns.4 China responds to these concerns by promoting “peaceful

87

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rise/development” within the context of bilateral and multilateral dialogues, such as cooperating on regional issues and increasing trade opportunities due to free trade arrangements. These are just a few examples of China exerting its “soft power,” which some believe help it achieve its hard goals.5 Evaluating China’s relationship with its Southeast Asian neighbors helps to uncover its future security policies. The following questions allow us to explore China and the Southeast Asian energy security equation more thoroughly. What are the geopolitical and energy realities of Southeast Asia and beyond? How do geopolitical and complex interdependence shape the energy equation? Why and how does China “go forth” in Southeast Asia? What are the domestic political and economic contexts for China’s strategy in Southeast Asia? How do domestic politics and multilateral arrangements affect the future of energy security in Southeast Asia? Energy Resources in the Southeast Asian/Pacific Area—What Is There to Fight Over?

Southeast Asia, and ASEAN specifically, still produce and hold in reserve significant energy resources. However, the outlook is mixed. As oil production declines, natural gas is on the rise, and coal maintains a healthy and increasing regional trade. ASEAN’s Shifting Energy Resources

ASEAN’s largest producers of crude oil are Indonesia and Malaysia, followed by Vietnam, Thailand, Brunei, the Philippines, and Myanmar. Indonesia is the region’s largest reserve holder at 47 billion barrels and is its only Organization of Petroleum Exporting Countries (OPEC) member. Indonesia’s output has fallen steadily for a decade to around 0.86 million bpd—half of its official OPEC quota. In fact, in 2004 Indonesia became a net importer of oil. Exacerbating the situation, disputes over licenses with companies such as ExxonMobil, lower output from aging fields, and a lack of investment in exploration stymie Indonesian energy development.6 However, this may turn around if Indonesia’s Cepu field in Java comes online with estimated reserves of at least 600 million barrels. Also, Indonesia’s energy company, Pertamina, no longer has a monopoly on upstream oil development, and this change may increase investment in its upstream energy sector. Still, there is resistance to any moves that could hurt the state-run firm and its revenues.

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Malaysia has proved oil reserves of 3 billion barrels, but its production and exports too are on the decline. During 2006 Malaysia consumed an estimated 515,000 bpd of oil, with net exports of about 283,000 bpd. Malaysia’s national oil company, Petronas, has exclusive ownership rights to all exploration and production projects in Malaysia. In addition, all foreign and private companies must operate through production-sharing agreements with Petronas. It has the clout to maintain this power because it is the largest contributor to state revenues. In an effort to offset declining domestic oil reserves, Petronas has initiated several overseas exploration and production projects. At present, Petronas is invested in twenty-nine countries and has an upstream component in twenty-three of these.7 In contrast to Indonesia, as a net energy producer Malaysia benefits from high oil prices. In the last few years Petronas has netted record profits and has been sought after to partner in foreign oil projects.8 While Southeast Asia is tapped out on oil, a significant amount of the world’s natural gas is to be found in the region. Because LNG demand is expected to increase yearly by around 11 percent through 2020, this creates potential high demand for Southeast Asian resources.9 With natural gas use likely on the rise in China and uncertainties surrounding the potential of piped Russian natural gas, Southeast Asian LNG has become the best option to fulfill Northeast Asian demand. This new interest in gas has the potential to affect gas prices and its availability regionally and globally. With increasing demand, consuming countries have no place to go if they do not renegotiate supply contracts. Two countries, Indonesia and Malaysia, account for 70 percent of Southeast Asia’s gas trade. Indonesia has proven natural gas reserves of approximately 2.6 billion cm and is the region’s largest exporter of LNG. Through 2005 about 70 percent of its exports went to Japan, 20 percent to South Korea, and the rest to Taiwan. Its share of the global LNG market is declining because there are questions about its support for existing contracts and regulatory transparency. Established customers in Japan, South Korea, and Taiwan have had to look elsewhere for supplies after being told to accept lower deliveries for 2006. New plans such as Indonesia’s Tangghu LNG project currently under construction may help increase Southeast Asia’s gas-export industry. A joint venture between CNOOC, BP, and Japanese investors, this project taps Indonesia’s offshore gas fields. Although startup has been delayed until 2009, the plan has gotten long-term LNG agreements that will take almost all the gas produced. LNG will be delivered to China’s second regasification terminal at Fujian, to South Korea, and to Mexico.10

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For its part, Malaysia holds 2 billion cm of proven natural gas reserves, and production has steadily increased. In 2005 it exported 21.2 million metric tons of LNG (28.3 billion cm equivalent) accounting for 15 percent of total world LNG exports, with Japan receiving 62 percent, South Korea 22 percent, and Taiwan 14 percent of the exports.11 Malaysia prepares to beef up its production capacity with new projects scheduled to come online in 2009.12 Much like China’s current “go forth” policy, most of Japan’s and South Korea’s historic investments into ASEAN have been to procure large shares of its energy requirements. They rely heavily on ASEAN for energy, particularly since the oil shocks of the 1970s sparked the shift toward natural gas in their domestic market. Today about 13 percent of Japan’s and 12 percent of South Korea’s primary energy uses are in natural gas, and Southeast Asia is their primary source. As of 2004 the region accounted for 60 percent of Japan’s LNG imports, 5 percent of its crude oil imports, 15 percent of its oil product imports, and 21 percent of its coking coal imports. South Korea gets 50 percent of its LNG, 6 percent of crude oil, 11 percent of oil products, and 24 percent of steam coal from the region. For China, no LNG exports are online yet, but the region accounts for 10 percent of its crude oil, 35 percent of oil products, and 63 percent of steam coal imports. In contrast, energyrelated exports from Northeast Asia to ASEAN are small. For example, only 3.9 percent and 1.4 percent of China’s steam and coking coal, respectively, go to ASEAN. Exports of oil products do reach a significant 46.5 percent, but these are mostly shipments of crude oil sent to be refined. Japan’s and South Korea’s past investments into ASEAN’s fossil fuel industries and manufacturing have been fundamental to its industrial and regional development (and also the mainstay of its foreign exchange earnings), but these investments have led to an unanticipated result. Because ASEAN states such as Vietnam, the Philippines, and Indonesia are just taking off economically, they require large amounts of energy themselves. This leads to an increase in per capita energy consumption at a rate of 5 percent each year, which increases demand in an ever-tightening energy environment. Corresponding to this is a rise in energy intensity levels, which on average has these ASEAN states consuming up to four times more oil per unit of GDP than developed states consume. As a result, countries in the region are moving to export less energy and instead use it for domestic demand.13 Higher oil prices also have a negative effect by threatening development plans, pushing inflation, and flattening growth. In response, these governments have

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increased efforts to save energy, pushed renewable energy development, and raised fuel and electricity prices.14 Increasing Vulnerability in Transportation

Another energy reality for China and East Asia is the geography of Southeast Asia, which creates vulnerable transportation routes for oil imports. Southeast Asia is vital for China geopolitically because it connects Northeast Asia to its major energy and trade shipping routes. The most significant concern is over sea-lane insecurity in the Malacca Strait, through which most of the region’s oil imports and trade flow. Eighty percent of East Asia’s crude (twenty-six tankers each day carrying 10 million barrels) and 25 percent of all global trade travel through the 2.5 km-wide Malacca Strait chokepoint separating Indonesia and Malaysia. Keeping this sea-lane open is vital for the economic survival of all parties, which leads to collective efforts to secure the chokepoint.15 Figure 5.1 presents a map of Southeast Asia which illustrates the energy security challenges in the region’s geography. The strategic importance of these straits increases each year as China’s rising energy demand increases its dependence on Middle East and African sources. Because China lacks the navy to protect these SLOCs, some in Beijing feel vulnerable that its energy may be cut off during a national security crisis by hostile naval forces (that is, the United States). In November 2003 President Hu Jintao voiced his concern that “certain major powers” sought to control the Malacca Strait. The Chinese press periodically runs stories with this theme emphasizing this threat to China’s energy future.16 Chinese security analysts remain uneasy at the prospect of a greater role for external powers in securing the strait and even accuse the U.S. and Japan of using the threat of terrorism as a pretext to expand their naval presence in and around the strait. In that vein, China has been suspicious of the U.S.-proposed Regional Maritime Security Initiative (RMSI), which calls on ASEAN states to permit U.S. marines to patrol the area against piracy and terrorism, and the U.S. Proliferation Security Initiative (PSI), which would allow U.S. personnel to board a suspect foreign vessel to prevent the proliferation of weapons of mass destruction. Beijing fears that these initiatives may give the United States dominant control over these channels and would provide the U.S. with a strategic chokehold on East Asia and China.17 Indonesia and Malaysia have aligned with China to reject any suggestion that external powers such as the U.S., Japan, or India should station military forces in the strait.

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Challenges and Opportunities in Southeast Asia 93

Within the region, however, countries do welcome help in the form of capacity building, intelligence exchanges, and training.18 With pirate activities growing in the straits across 2003-2004, the possibility of transnational terrorist groups disrupting the maritime traffic (and hence global commerce) became tangible. Since then Indonesia, Malaysia, Thailand, and Singapore have begun to coordinate air and naval patrols in the region. As a result of these and other initiatives, the number of pirate attacks in the area has declined.19 Ju Chengzi, director general of China’s Ministry of Transportation, notes China’s willingness to assist the regional states with capacity building, technical support, training programs, hydrographic surveys, and navigation aids.20 In lieu of a navy to protect the straits, China’s long-term plans include seeking alternate transportation routes in Southeast Asia that minimize shipping vulnerabilities.21 Today a China-Myanmar (Burma) pipeline is one regional plan in an early negotiation stage. The proposal has China build a pipeline from Sittwe on the southwest coast of Myanmar near the Indian Ocean to Kunming in China’s Yunnan Province. This project would shorten the Malacca trip by about 1,200 km. To get the deal, China probably will have to outbid challenges from India and Japan. Other alternatives include a pipeline or canal across Thailand, but this plan also faces technical and economic hurdles. The most important alternatives seem to rest with opportunities for joint LNG projects between China and ASEAN states that circumvent the Malacca transportation issue, as it offers a way for China to shift its import structure and to move toward a cleaner alternative energy option. Southeast Asia, as the fourth-largest LNG producer in the world, provides an important opportunity for China despite competition from Japan and South Korea for the LNG. This situation makes China’s future relations with this gas-rich area a critical long-term goal.22 China’s Energy Diplomacy—Going Forth in Southeast Asia and Beyond

Chinese moves to invest in the Southeast Asia region energy sector follow China’s broader “go forth” efforts that couch investment within a wider political and economic context. As it does elsewhere, China improves access for its energy companies to overseas upstream projects by entering into parallel, government-level trade agreements and by offering other governments financial support. In 2005, as part of a government-to-government package of financial and political cooperation, Sinopec signed an MOU with Indonesia's Pertamina to build a $2.5 billion refinery in East Java. In exchange for this

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downstream investment, Sinopec expected access to upstream hydrocarbon reserves. While Sinopec's interest in this project seems to have faltered (cost inflation may have affected the original investment decision), this illustrates how China's government supports its energy firms’ overseas investments.23 Because China’s gas demand is expected to more than double by 2010 (as Beijing attempts to reduce its oil and coal use), this pattern of investment is expected to continue.24 In the past such an expansion in LNG investments was hampered by China’s unwillingness to pay market prices for gas. Until May 2007 China’s insistence on cheaper deals led the industry to scrap its deals with China and to go with Japanese and South Korean buyers who would pay up to four times the price the Chinese offered. For example, in 2005 Chevron scrapped a $30 billion contract with CNOOC for supplies from one of its plants in Australia.25 To get the deal, CNOOC, the operator of the proposed Fujian import terminal, had to renegotiate its original twenty-five-year LNG contract supplied by Australia’s North West Shelf and to pay much higher prices.26 China’s recent purchases of LNG cargoes by Guangdong LNG from Oman (and also cargoes from Algeria and Nigeria) on the short-term LNG market show a new willingness in China to pay market prices for LNG.27 China now has plans for future long-term production. For example, PetroChina has two pending contracts in Australia to import to the Dalian terminal in China’s northeast when it is completed. One is a twenty-year deal with Shell set to come onstream by 2010 with gas coming from the Gorgon project in Australia’s northwest. The second is a fifteen-year deal with Australia’s Woodside that should come on track by 2013.28 In September 2007 PetroChina signed two provisional gas purchase agreements to start up between 2013 and 2015 with Australian LNG projects to the tune of 2-3 million tons a year (up to 4 billion cm) for fifteen to twenty years. One partnered with Woodside Petroleum and a second with Royal Dutch Shell.29 China, the Philippines, and Vietnam have a working agreement to cooperate in joint surveys in the South China Sea in an area previously disputed.30 These contracts along with China’s plans to build more LNG terminals indicate that China needs the natural gas and that it is ready to “play the market” to secure supply. China’s investments in LNG take many forms. There are various efforts, as those noted above show, to jointly survey, explore, and purchase LNG from Southeast Asian suppliers. Unlike Western majors that are divesting in Indonesia, China has provided $585 million to acquire Repson-YPF assets in Indonesia, has purchased Devon Energy assets in Indonesia, has spent $8.4 billion to contract for LNG supplies from the planned Tangguh fields to Fujian Province (delivery of 2.6

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million tons or 3.5 billion cm equivalent each year), and has signed an MOU for a gas stake in North Sumatra.31 Chinese, Indian, and Japanese companies engage in competition in Southeast Asia and around the globe for these energy resources. For example, China’s twenty-five-year contract signed with Indonesia to supply LNG to the Fujian terminal started a battle for this gas between China and Japan. Japan signed an economic pact with Indonesia in return for the renewal of gas contracts due to expire in 2010 and 2011 that came after China struck its long-term gas deal with Indonesia.32 More globally, companies such as CNPC along with Malaysia’s Petronas and India’s Oil and Natural Gas Company, Ltd. have competing interests in areas of concern to the West such as Sudan, while CNPC is joined by Japan’s Inpex in Iran.33 China often has the upper hand in this competition because it is better financed than its rivals. For example, in Myanmar, China is a step ahead of India as it has an MOU with the government to supply more than 20 trillion cm of gas from its gas fields in the Bay of Bengal in a thirty-year deal. As progress on a Myanmar-Bangladesh-India pipeline flounders, Myanmar seems to see China as a more reliable partner. China, reportedly, has provided more explicit assurances about the schedule for the proposed oil pipeline from the Bay of Bengal to Yunnan Province.34 Singapore and Malaysia join China and India to vie for Myanmar’s natural resources. At a time of rising energy prices, extracting resources trumps any shame that comes with dealing with Myanmar’s autocrats.35 In some contexts, these companies also cooperate. For example, Gas Authority of India, India’s largest gas transmission and marketing company, and China Gas Holdings forged a joint venture agreement to pursue gas business opportunities in China, India, and the developing world. This is a rare partnership between state-owned energy companies that usually are set against each other in vying for equity oil and gas. The partnership will focus on compressed natural gas (CNG), coal bed methane, pipelines, and LNG to address the growing pressure for CNG as an alternate fuel to petrol and diesel in cities and feedstock for power plants traditionally relying on coal.36 In 2006 both Indonesia and Malaysia won bids for Zhujiang Delta and Shanghai Delta for LNG projects.37 Slowly the increase in demand and price is influencing the nature of regional gas markets.38 The long-term consequence of Asia’s increased efforts to seek LNG cargoes originally destined for regional U.S. and European markets is the creation of a new global price for long-term and short-term supplies. Only 10 percent of gas is currently traded on a

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short-term basis, with the rest sitting in long-term contracts usually at lower prices. However, Asian buyers such as Japan, South Korea, and India’s National Thermal Power Corporation plan to participate in projects as far away as Nigeria’s $1 billion LNG export terminal. In addition, South Korea’s Gas Corporation, Kogas, has bought volumes from Qatar originally destined for the United States. Energy experts argue that such deals create new linkages in prices across the three regional markets (Asia, North America, and Europe), leading to the beginnings of a global gas price as traders reference other regions and LNG volumes move from the Atlantic to the Pacific. Blame for this new demand is placed at the feet of Japan’s economic recovery and China's economic growth. China’s LNG deals show a greater willingness to play the market game and to partner with others to secure needed energy resources. Because China’s government is interested in increasing its natural gas use for domestic purposes, its investments should continue to drive a change in the region’s natural gas market.39 Understanding the Political and Economic Context of China’s Southeast Asian Energy Security Policy Lingering Regional Disputes That Complicate Emerging Relationships

There are lingering competing territorial claims over the South China Sea, which include China, Taiwan, the Philippines, Vietnam, Indonesia, Malaysia, Brunei, Cambodia, and Thailand and have been a recurring irritation. While the intensive rivalry in the 1980s and early 1990s around the Spratly and Paracel Islands, which led various countries to build infrastructure projects to bolster their legal claims, is done, competition and mistrust remain. Speculation over possible petroleum and gas projects has upped the stakes. Credible estimates put the area’s oil reserves at 105 billion barrels, and many of the region’s natural gas projects fall within this disputed area. The problem is that China claims an exclusive right to most of the South China Sea. China’s sovereignty claim is based on a two-hundred-mile exclusive economic zone in which it asserts the right to regulate “high seas freedoms and overflight,” creating a context for multiple overlapping sovereignty claims with the potential for future tensions.40 After years of confrontation, in November 2002 China and ASEAN signed a “Joint Declaration on the Conduct of the Parties” whereby the

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parties all agreed to use peaceful means to resolve their territorial and jurisdictional disputes.41 However, despite the dialogue to establish a code of conduct governing competing claims over these resources, resolution is far off. ASEAN members push for specific commitments to refrain from the occupation of reefs or any new construction, while China wants less specific controls. Since the signing of the joint declaration, some tensions have been resolved through joint ventures. For example, in March 2005 the national oil companies of China, the Philippines, and Vietnam signed an accord to jointly prospect for oil and gas resources in the disputed South China Sea areas.42 He Sheng, from China’s Contemporary Institute of International Studies, argues that China sees resolution of such disputes as a longterm process: “We need to start with objectives that are achievable and work gradually towards resolving the more difficult points. To achieve the goal of joint exploration and joint development of the sea resources we need more perseverance and trust.”43 With these efforts, some Chinese scholars believe that the situation in the South China Sea has been stabilized and that the relationship between China and ASEAN countries has been improved.44 However, in 2007 China sparked new concern by creating a new city administration responsible for the Spratly and Paracel Islands. This led to new anti-Chinese demonstrations in Vietnam’s Hanoi and Ho Chi Minh cities in December 2007 and spurred a conflict between Chinese and Vietnamese fishing vessels in January 2008 near the Gulf of Tonkin.45 For its part, China in July 2008 became angry due to the preliminary cooperation agreement that ExxonMobil signed with PetroVietnam for a joint exploration project in the South China Sea.46 These examples show that although the situation is relatively stable, tensions do linger. Growing Complex Economic Interdependence

From a complex interdependence perspective, there are significant reasons to believe that the parties involved will work to manage any disputes that arise. No other area of the world is more mutually interdependent economically than Southeast Asia. Through ASEAN and other mechanisms, the region works to develop close ties internally and externally in order to address shared interests. It also works to build a stronger position vis-à-vis its external partners. For China, Southeast Asia offers a wide variety of economic opportunities. A close manufacturing and trade relationship with ASEAN is seen as a win-win relationship to be fostered. Out of China’s modest but growing development aid budget, Southeast Asia receives

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the bulk of China’s attention. According to Chinese premier Wen Jiabao, “the two sides are complementary in resources, industrial structure and trade, and both are experiencing development.” He argues that China’s commitment to regional cooperation is illustrated through its determination to build the China-ASEAN Free Trade Area. Still, for Southeast Asia, China’s economic success represents both an opportunity and a challenge. President Arroyo of the Philippines, who served as ASEAN president in 2006, notes that ASEAN represents a market of half a billion people for China and that in turn, with its free trade agreement (FTA) with China, “ASEAN countries can reduce our dependence on Western markets such as the US and Europe.”47 However, as FDI into China improves (see Table 1.1. in chapter 1) China’s own manufacturing capacity and makes its goods competitive to outside markets, there may be a corresponding strain on its less developed neighbors. ASEAN leaders fear that Chinese manufacturers will hurt their local businesses. Recognizing this problem, China has opened its domestic market more, increased its development aid to the region, and pushed FTAs that may accomplish this goal. Zhang Wenling from the Chinese Academy of Social Sciences argues that China should manage its FDI more effectively and provide more aid to less developed neighbors to help them reach their sustainable development goals.48 ASEAN sees economic competitiveness as the major geo-economic challenge facing the region. Today, ASEAN’s leaders push for a European Union-style single market and production base that has an unrestricted flow of goods, services, investments, and skilled jobs by 2015. This integration is seen as essential as the bloc attempts to compete with larger economies for investments and exports. Cambodia’s commerce minister Cham Prasidh argued in 2007 that “[i]f we can’t start to integrate ourselves faster, we would see our competitiveness erode even more and our market share will shrink.” 49 ASEAN states see China, Japan, and India as their major competitors. Recent ASEAN trade patterns demonstrate the importance of China and Japan to ASEAN relative to others but also the importance of ASEAN trade to each of them as well. Table 5.1 below illustrates ASEAN trade volumes with its immediate neighbors. China-ASEAN FTA negotiations have made some progress, and hope for their success is fueled by the growing bilateral trade volumes between the two that increased on average 22 percent each year from 1990 to 2005. China-ASEAN trade hit $130.3 billion in 2005, $160 billion in 2006, and $202.5 billion in 2007, making China and ASEAN each other’s fourth-largest trading partners. Since FTA negotiations began, China has cut tariffs on seven thousand goods from ASEAN and

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signed a service trade agreement and an investment and trade agreement, which laid a solid basis for building a China-ASEAN free trade zone. Two-way investment continues to expand, with the ASEAN states investing $40 billion in China and China investing $158 billion in ASEAN from January to June 2006 alone. In 2006 China also provided $5 billion in preferential loans to encourage Chinese companies to invest in Southeast Asia.50 The ASEAN-China FTA talks were at a crucial stage in fall 2007, and concessions are needed to move it further. The “easy things” such as the commodity trade and service trade agreements are done, but serious issues remain to be addressed.51 Table 5.1: Overall ASEAN Trade #s with Selected Countries (2006) (Millions of U.S. Dollars) Country

Exports to ASEAN

% of Total Exports

Imports from ASEAN

% of Total Imports

Total

% of Total Trade

Japan

81,284.90

10.8

80,495.60

12.13

161,780.50

11.5

U.S.

96,943.50

12.9

64,252.50

9.8

161,196.00

11.5

China

65,010.30

8.7

74,950.90

11.5

139,961.20

10.0

South Korea

25,670.00

3.4

26,849.70

4.1

52,519.60

3.7

India

18,928.10

2.5

9,774.60

1.5

28,702.70

2.0

Australia

23,148.50

3.1

13,262.80

2.0

36,411.40

2.6

TOTAL:

750,707.80

100.0

654,097.8

100.0

1,404,805.70

100.0

Source: ASEAN Trade Database.

ASEAN efforts have led to annual summit meetings, ministerial meetings, and market liberalization through various proposed FTAs that include China, Japan, South Korea, Australia, New Zealand, and India. 52 These FTAs are ASEAN’s prime effort and are at various stages of development. China began talks with ASEAN first, but the talks with Japan are further along. ASEAN economic officials met in January 2008 to set up a time frame and model for the trade agreement that could have been signed as early as May 2008. The agreement covers trade in goods, while investment and services remain covered by bilateral agreements. 53 In their most recent meeting, the foreign ministers of the ASEAN +3 countries discussed the growing challenges of rising oil prices, as well as climate change, for continued economic development. They called on member states to promote greater collaboration and information sharing.54

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Despite uneven economic distribution across Southeast Asia and the Asian financial crisis in 1997-1998, overall the region has experienced significant positive growth in the last few years. But downward trends in 2008, due in part to the U.S. credit crisis, lead to fears of greater inflation, particularly with rising food and energy prices. Prior to the crisis, the 2008 World Bank outlook for Southeast Asia predicted that growth would slow to 8.5 percent from its 10.2 percent growth in 2007. In Indonesia, Malaysia, Thailand, and the Philippines growth is expected to range between 5 and 6 percent. The poor who use between one-third and two-thirds of their income for food will see a real decline in purchasing power. (In contrast, those economies that are net exporters of energy will likely enjoy some gains.) Still, the region is better able than some to weather this downturn because of its past economic momentum, diversified trade and financial flows, and high levels of foreign exchange reserves, which give it some room to adjust to the impending global slowdown.55 Regarding FDI into the region, Southeast Asia has yet to recover to the level of investment it had before the Asian financial crisis. ASEAN’s share of world FDI in 1995 was 8.27 percent, in 2000 it had dropped to 1.67 percent, and in 2005 it recovered to 4.05 percent. In the same period China’s corresponding inflows were 11 percent, 2.89 percent, and 7.9 percent; Japan’s were .01 percent, .59 percent, and .3 percent; and the United States’ were 17.3 percent, 22.3 percent, and 10.9 percent respectively. In 2005 total inflows to ASEAN reached $38 billion. From 1995 to 2005 half of ASEAN’s inward FDI went to Singapore, with Malaysia and Indonesian numbers increasing significantly.56 Looking further west, China has developed a complex relationship with India involving elements of cooperation and competition. China remains wary of India’s new diplomacy in Southeast Asia, and efforts to improve relations remain modest despite India’s reciprocity. Since 1996 both sides have committed to maintain peace and stability along their disputed border, but there is no time line for a border agreement. China pursues border talks and developing economic cooperation to ease tensions, but the two parties are a long way from trust.57 In 2004 bilateral trade reached $7.6 billion, and there have been political breakthroughs in areas such as China accepting that Sikkim is a part of India and India acknowledging Tibet as part of China.58 In January 2007, during the meeting between Chinese premier Wen Jiabao and Indian prime minister Mnmohan Singh, the two states articulated a shared vision for the twenty-first century. They agreed to raise the bilateral trade volume to $60 billion by 2010 and signed ten deals in areas ranging from promoting economic planning to railway

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construction and health cooperation. They agreed to launch a feasibility study focusing on a regional trade agreement “at a proper time.” Singh described the talks as an "important milestone in the evolution of relations."59 However, the unrest in Tibet leading up to the 2008 Summer Olympics in Beijing has been a test of this new relationship. New Delhi has had to engage in a diplomatic balancing act between maintaining improved relations with Beijing and its long-standing support for the Dalai Lama. Its formula to balance the two—providing sanctuary to the Dalai Lama while demanding that exiled Tibetans refrain from anti-Chinese demonstrations in India—is under attack. At the time India’s Foreign Ministry called for resolution of the crisis “through dialogue and nonviolent means.”60 Such crises, as well as continued competition for markets and commodities such as energy, complicate the relationship between China and India. Rhetorically, the two have agreed to cooperate on energy and are partners in energy enterprises in Iran and Sudan, among other places. However, the relationship with India shows how delicate a balance can be in interstate relations. Regional Multilateral Arrangements and “Responsible” Behavior

Regional arrangements are seen as a way to shape China’s future energy behavior to reinforce “responsible” behavior and market practices. The countries that deal with China within ASEAN and Asia-Pacific Economic Cooperation (APEC) focus on enforcement of contracts and facilitation of partnerships across oil and gas companies, improving sharing of oil data toward global harmonization of energy reserves, supply, demand, stocks, and production. For example, efforts to promote China’s strategic petroleum reserve (SPR) fall within the rubric of organizations such as this. Japan (and the U.S.), in particular, encourages China to coordinate its energy policy with Organization for Economic Co-operation and Development (OECD) countries and the International Energy Agency. Although IEA membership is restricted to OECD countries, the group works with China to promote market practices. Some would like to see China in the IEA and push to bring China’s SPR online and commit China to the IEA policy to coordinate responses in the context of an oil shortage. Zhao Dadi argues that improving the international energy-supply security structure and coordinating with the IEA are important steps to promote stability in the global energy sector.61 Many experts agree that China is starting to accept Western practices, as shown in its acceptance of IEA principles in how to manage its SPR to avoid temporary supply disruptions. Even

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so, patience is needed because change in China will not come overnight.62 Within APEC’s Energy Working Group, China has an opportunity to work with other IEA members and regional countries to coordinate energy policies. In these meetings the focus stays with familiar themes of energy security and sustainable development promoted through efficiency, conservation, and diversity on less controversial demand-side policies. APEC declarations note that oil security will be met through ensuring investment in refining capacity to meet demand, transparent regulatory frameworks for such investment, freer trade of oil products, and a positive environment for technology refiners to produce cleaner products more efficiently. Most significant, however, is the focus on energy efficiency (in power generation, industry, transportation, and in the residential and commercial sectors) and development of cleaner and more efficient power-generation technologies that set a familiar tone.63 These regional efforts have adopted remarkably similar definitions of energy security. The January 2007 ASEAN “Declaration on Environmental Sustainability” presents a definition of energy security that links it to broader social and economic concerns.64 APEC declarations note that oil security will be met through ensuring investment in refining capacity to meet demand, transparent regulatory frameworks for such investment, freer trade of oil products, and a positive environment for technology refiners to produce cleaner products more efficiently. Most significant, however, is the focus on energy efficiency (in power generation, industry, transportation, and in the residential and commercial sectors) and development of cleaner and more efficient power generation technologies.65 China has become confident enough to lead its own energy discussions both with and without the United States. The China-initiated East Asia Summit is a pan-Asia architecture within the ASEAN umbrella (plus Japan and South Korea) erected to address common issues of import dependence (the countries involved consume 21 percent of the world’s oil but only produce 11 percent) and ways to address the region’s growing energy demand. The group accounts for one-third of global energy consumption (90 percent of it coming from fossil fuels) and is predicted to increase this demand with rapid economic and population growth.66 Within the structure of the East Asia Summit in January 2007, leaders from sixteen Asian nations signed the Cebu “Declaration on East Asian Energy Security” in an attempt to reduce the region’s dependence on fossil fuels and promote alternative sources. However, the effectiveness of the declaration is in question because it sets no spending

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targets to develop alternative energy sources, which would be necessary to reduce dependence on foreign oil. To reduce this import reliance, the region needs to move more effectively toward alternative energies such as hydropower, nuclear, and biofuels. Japan pledged $2 billion to aid the signatories to improve energy efficiency and adopt technologies to reduce GHG emissions. Japan’s assistance to ASEAN to cut energy waste includes efforts to develop energy management guidelines, energy databases, and technology transfer.67 The second ASEAN joint statement from November 2007 reaffirms the need to take an “effective approach” to the interrelated issues of energy security, climate change, and the environment. China’s Domestic Energy Policy Drivers—The Domestic Need for Multilateral Collaboration in Southeast Asia

Given practical transportation bottlenecks within China and growing environmental concerns, the government seems to have committed to a future of using Southeast Asian LNG to service China’s needs where demand is high in its energy-hungry coastal cities. Southeast Asia’s LNG is tempting because it is closer to China’s centers of natural gas demand than China’s domestic resources or Central Asian resources are. China’s domestic natural gas is problematic in that its domestic sources are far from their potential markets in the east.68 With its first LNG regasification facility in Guangdong Province, China will help to drive future LNG-demand growth in China and the Asia-Pacific region. Some expect China’s gas demand to more than double by 2010 as Beijing attempts to reduce China's oil and coal use.69 Despite the advantages outlined, LNG’s future in China is constrained by a host of domestic challenges. Although new LNG terminals are an important part of Beijing’s import strategy, progress in building them has been slower than anticipated. Despite government plans to have twelve terminals in place by 2010, at most China will have three done. For example, CNOOC’s second LNG terminal in Fujian Province has been delayed.70 China’s new Shanghai terminal construction is due to be completed in 2009. It is contracted to receive Malaysian LNG for twenty-five years. Simultaneously, PetroChina is building a fleet of much needed LNG tankers. The first ship was delivered in late 2007, another thirty-seven were due in 2007, and fifty more were ordered for 2008.71 This building boom may be stymied by a lack of market structures and government structures. China specifically lacks a unified regulatory system to promote broad use of natural gas. Natural gas prices are

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determined locally inside China, which leads to a patchwork of different prices and regulations. Further, China has a fragmented system of domestic pipelines and distribution networks that make distribution beyond the coast problematic. Natural gas consumption remains limited to where it is produced locally. China’s largest natural gas fields are in the west and must be piped to eastern cities.72 Much of China’s domestic imperative is to create an international environment conducive to economic growth. Involvement in the multilateral mechanisms noted above, then, stabilizes the international environment, which fosters domestic stability. When such groups emphasize a demand-side definition of energy security, they point to policies that encourage energy efficiency and conservation. This is an area in which China seems to be Susan Shirk’s confident actor. The push for LNG despite the high cost again illustrates how rapid domestic energy demand fuels China’s outside strategy. China’s “go forth” efforts in Southeast Asia are supported by broader efforts in energy cooperation within the region’s multilateral mechanisms. A broad dialogue takes place on energy conservation and energy security in these terms. The fundamental issue is that China domestically cannot meet its energy demand. This reality means that China’s energy policy shifts to control domestic demand and conservation practices. Reinforcing market practices, the transfer of clean energy technology has been part of broader efforts to change the way that China uses energy. In the Southeast Asian context, particular emphasis is put on “improving energy efficiency, diversification of energy supply and development of new and renewable sources of energy.” Sustainable development approaches emphasize “mitigation of and adaptation to climate change, as well as compatibility between environmental protection, and sustained economic growth and social development.” 73 Interestingly, this joint statement adopts almost verbatim China’s stance on climate change, emphasizing an equitable post-2010 climate change framework and common but differentiated responsibilities that put the onus for change on the developed world. The East Asia Summit in November 2007 defined energy security similarly through promotion of “the use of low-carbon and environmentally friendly technology, enhancing research and development, encouraging technology transfer, providing technical and financial assistance and enhancing the implementation of clean development mechanisms.” 74 Such definitions focus more on the energy-environment link and the need to address energy conservation more thoroughly as part of the

Challenges and Opportunities in Southeast Asia 105

greater energy security equation in the next chapter. As we will see, climate change reinforces the energy use/energy security link. Conclusion

China’s interest in Southeast Asian energy resources is on the rise. In seeking new investment opportunities and natural gas supplies, China’s efforts raise new concerns over the effects of its growing shadow. As the country moves forward, it simultaneously displaces some traditional relationships between the region and Japan. Despite these moves, however, China seems to have made great strides to reassure its neighbors of its peaceful rise. Zhang Wenling, from the Chinese Academy of Social Sciences, makes the point that “the major goal of China's diplomatic policies is striving to create an excellent external environment,” which he feels has made China’s relations with its neighbors increasingly strong. He notes that China’s neighbors have been receptive to this change and recognize that China “occupies an increasingly important position in these countries' diplomatic relations. China also believes that its neighbors are more important than before due to the links that provide China with resources, capital, and advanced technologies.75 In these terms, by staying sensitive to its neighbors’ concerns, China keeps its relationships in the realm of neoliberalism’s “mutual gains” and on the positive side of interdependency. ASEAN efforts at internal community-building and its efforts to be in a strong position in talks on establishing free trade areas with other countries reflect a more nuanced reality. In these efforts ASEAN states show their sensitivity to both Chinese and Japanese dominance. East Asian cooperation, which is conducted mainly through the ASEAN+ channels, has expanded in scope and with its institutional-building efforts that play a major role in promoting peace, stability, and prosperity in the Asia-Pacific region.76 However, any regionalism effort faces the growing possibility that China and Japan will compete for leadership. For example, in the East Asia Summit structure, Japan pushed back on Chinese efforts to limit the membership. To reduce Chinese influence in the East Asia Summit, Japan specifically pushed for Australia, New Zealand, and India to be included. China counters Japan’s efforts by presenting itself as a leader of the developing world and a champion of common interests rather than a competitor for regional power.77 As energy resources become scarcer, the stability of these relationships may be in jeopardy and prospects for Sino-Japanese competition may increase. If a threat scenario comes to dominate, it may

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be difficult to manage the conflict and to change such a negative frame of reference. However, new regional frameworks with deeper bilateral relationships offer a forum to manage such disagreements. Certainly this kind of competition comes with fewer consequences than traditional geopolitical realities. If shared interests in promoting a broad definition of energy security that includes demand-side considerations prevail, there may be hope for cooperative relations. From a domestic politics perspective, domestic imperatives in China fuel the push for greater economic collaboration in Southeast Asia. Here we see how promotion of new regional mechanisms specifically can be used to promote greater economic stability at home. Beijing’s power, and interests, are closely linked to a rapid development imperative. China’s links to Southeast Asian states is an integral part of its future prosperity. The next chapter will take a closer look at the domestic debates surrounding China’s development decisions. As we will see, the links between energy security, development, and climate security offer a new definition of “energy security” that necessitates a look at the next greatest threat to the current energy use equation, rising greenhouse gas emissions, and the carbon pollution that leads to severe climate change.

1 See, for example, Harris, “China’s Regional Policies.” Southeast Asian states have been the recipients of Japanese foreign aid for years, but the annual amount is on the decline. Since the Asian Financial Crisis of 1997-98 through 2005, Japan has provided $80 billion to help the region recover from the damage through infrastructure projects. 2 Xu, “China’s Energy Security,” pp. 268-280. 3 ASEAN members include Indonesia, Thailand, Malaysia, Singapore, Brunei, the Philippines, Cambodia, Laos, Myanmar, and Vietnam. Formed in 1967, it has a combined gross domestic product of over $1.03 trillion and a population of about 570 million. 4 Chongkittavorn, “U.S. Needs to Overhaul Agenda.” 5 Sutter, “Why Rising China Can’t Dominate Asia,” pp. 117-118; Kurlanzick, Charm Offensive. 6 Brower, “Mixed Fortunes.” 7 EIA, “Country Analysis Briefs: Malaysia.” 8 Hoong, “Fragile Economies at Risk.” 9 Brower, “LNG Deals Hint at Tactical Shift.” 10 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 77-85. 11 EIA, “Country Analysis Briefs: Malaysia.” 12 Clark, “Analysis—Southeast Asia.” 13 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 76. On the other hand, Vietnam has nice-sized reserves of oil and gas. Its output in oil outpaces production by 100,000 bpd and demand for natural gas is in line with

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its domestic demand. It exports over half of the coal it produces to China and Japan. 14 Hoong, “Fragile Economies at Risk.” 15 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 83-84. 16 Storey, “China’s Malacca Dilemma.” 17 Zhang, “China’s Energy Corridors.” 18 Storey, “China’s Malacca Dilemma.” 19 Zhang, “China’s Energy Corridors.” 20 Storey, “China’s Malacca Dilemma.” 21 Kenny, “China and the Competition for Oil and Gas,” p. 43. As part of the wide range of bilateral ties China has developed, it has gained port access in places across the region. A deep-water port at Gwadar, Pakistan, being built by Chinese engineers is a possible place for forward anchoring PLA navy ships. 22 Zhang, “China’s Energy Corridors.” 23 Parry et al., “Unocal a Bump in the Road.” 24 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 78. 25 Zhang, “China’s Energy Corridors.” 26 Thomson, “ASEAN and Northeast Asian Energy Security,” p.79. 27 The short-term or spot LNG market accounts for 15-20 percent of globally traded LNG volumes. Most states seek long-term supply contracts in regional relationships. However, in recent years a global LNG market has begun to take shape, in part, due to rising demand for LNG in Asia, including China. 28 Kenny, “China and the Competition for Oil and Gas,” pp. 38-41; Derek, “Blazing a New Path”; Nicholls, “They're All after One Thing.” 29 Lewis, “Supply Deals Bring Succor.” 30 Zhang, “China’s Energy Corridors.” 31 Kenny, “China and the Competition for Oil and Gas,” pp. 40-41. 32 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 79. 33 Brower, “Asia Rising.” See also EIA, “Country Analysis Briefs: China— Oil.” 34 Gavin, “China and India Battle.” 35 Fuller, “For Myanmar’s Neighbors.” 36 Nadkarni, “China Joins India.” 37 Zhang, “China’s Energy Corridors.” 38 Watson, “Dawn of a Global Market.” 39 Thomson, “ASEAN and Northeast Asian Energy Security,” pp. 77-80. 40 DOE, Energy Policy Act 2005, p. 30. 41 EIA, “Country Analysis Briefs: South China Sea Territorial Issues.” 42 DOE, Energy Policy Act 2005, p. 30. 43 Quoted in Bezlova, “China Moves to Expand Its Reach”; see also, Xia, “Partnerships Will Help Solve Energy Conflicts.” 44 Zhang, “PRC Scholar Discusses Issues.” 45 Bezlova, “China Moves To Expand Its Reach.” In addition, Taiwan’s announcement that President Chen Shui-bian would visit the Spratlys to reinforce Taiwan’s claim to the Islands caused new concern for China. 46 Li, “China Angered.” 47 “China, ASEAN Vow to Expand Links.” 48 Zhang, “PRC Scholar Discusses Issues.”

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49 Adam, “ASEAN Steps up China.” See also Thuy, “Active, Stronger Integration of ASEAN.” 50 “China, ASEAN Vow to Expand Links”; “China-ASEAN Become Fourth-Largest Trade Partners”; Li and Bai, “China Practices.” 51 Ding, “China, ASEAN on Crucial State.” 52 Zhang, “PRC Scholar Discusses Issues.” 53 “ASEAN-Japan FTA Expected to Be Signed”; Adam, “ASEAN Steps Up.” 54 ASEAN, “Chairman's Statement of the 9th ASEAN Plus Three.” 55 Wong, “East Asia Economies Press.” 56 For an in-depth discussion of these trends, see Plummer and Cheong, “FDI Effects of ASEAN Integration,” pp. 2-3. 57 Zhang, “PRC Scholar Discusses Issues.” 58 Harris, “China’s Regional Policies.” 59 “Sino-Indian Ties Cemented”; Li and Bai, “China Practices.” 60 Chu, “Tibet Unrest Tests India.” 61 Zhao, “Five Steps to Prevent Future Energy Woes.” 62 These themes were repeated in a number of presentations the author attended and in conversation with China energy experts in Washington, DC October-December 2007. 63 Asia-Pacific Economic Cooperation (APEC), “Darwin Declaration,” pp. 1-8. 64 Association of Southeast Asian Nations (ASEAN), “ASEAN Declaration on Environmental Sustainability.” 65 APEC, “Darwin Declaration,” pp. 1-8. 66 The East Asia Summit is made up of ASEAN states plus China, Japan, Korea, India, Australia, and New Zealand, sometimes referred to as ASEAN+6. 67 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 84. 68 Brower, “LNG Deals Hint at Tactical Shift.” Similarly, given the bottleneck in China’s railways, it has become easier and cheaper to import coal from Australia because of the proximity of the energy users to ports versus the remote location of China’s coal sources to its major industrial centers. 69 Thomson, “ASEAN and Northeast Asian Energy Security,” p. 78. 70 EIA, “Country Analysis Briefs: China.” 71 Zhang, “China’s Energy Corridors.” 72 Shanghai currently gets natural gas through PetroChina’s West-East Gas pipeline, which began operating in January 2005. The 4,000 km pipeline originates in the Xinjiang region in the west, with the main branch line ending in Shanghai. Imports of natural gas have been slowed by the lack of progress in the import and pipeline infrastructure. 73 ASEAN, “Second Joint Statement on East Asia Cooperation Building.” 74 ASEAN, “Chairman's Statement of the 3rd East Asia Summit, Singapore.” 75 Zhang, “PRC Scholar Discusses Issues.” 76 Information Office of the State Council, PRC, China’s National Defense in 2006.

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77 Davis, “East Asia Summit Tackles Energy Security”; Conde, “East Asia Summit Signs Energy Accord”; ASEAN Secretariat, “Cebu Declaration on East Asian Energy Security.”

6 Juggling Priorities at Home China’s search for energy resources in Asia and around the globe has yet to secure the country’s current and future energy needs. Its rapid developing economy—predicted to quadruple by 2030—keeps the pressure up. While China’s long-sustained growth is an economic miracle, its corresponding growth in energy use and recurring shortages show an unsustainable energy strategy and the inability of its supplyside energy policies to address its energy security adequately. Through 2030 China’s demand for oil will increase nearly 3 percent per year, with overall consumption doubling to 13.1 million bpd. Corresponding to this demand increase, China’s decline in domestic oil production (down to an anticipated 2.4 million bpd by 2030) leaves the shortfall to be addressed by imports. This makes securing adequate energy sources a constant need.1 This “reality” has prioritized a new domestic energy campaign highlighting conservation and seeking greater energy diversification beyond fossil fuels. Looking to the demand-side of the China energy security problem and its potential for renewable energy frames the problem as one of greening China’s development path. This challenges China to adjust its economic growth and energy consumption models accordingly.2 In a high-cost energy environment, China faces a growing sense of vulnerability vis-à-vis access to cheap energy sources necessary for its continued growth. Changing its energy-consumption patterns means adjusting away from a traditional economic growth model based on massive energy consumption, low efficiency, and heavy pollution in order to become less wasteful.3 This chapter explores the domestic policy side of China’s quest for energy security by explaining how its development priorities and growing environmental challenges lead to new energy conservation strategies. Today, Deng Xiaoping’s economic growth model (or “growth-at-any-cost”) vies with environmental concerns within the broad debate of sustainable development. Growing concern over climate change adds a new impetus to this debate. Given the challenges that China faces, seeking greater energy efficiency is the most cost-effective way to meet its immediate energy security and climate security challenges.4

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The Domestic Roots of China’s Energy Shortages and Environmental Challenges

In the short term, China has forged a two-prong domestic politics approach that addresses domestic consumption practices.5 Beijing’s efforts include attempts to develop cleaner energy and changing the way China uses existing energy sources. Energy-use changes are promoted through new energy laws and regulations, specific conservation plans, implementation of new technology, research and development and policies favoring energy conservation, energy efficiency standards, and labeling, for example. Optimizing the energy mix means expanding beyond readily available coal. The 2005 renewable-energy law set a goal to get 15 percent of China’s energy from renewable sources by 2020, which would be up from the current 7 percent. Although there are financial incentives and a national renewable fund, discounted lending, and tax incentives to move renewable projects forward, the higher upfront costs still make financing difficult.6 Further, given China’s growing energy demands, these goals are not enough to have a significant impact on China’s dependency on fossil levels.7 The best areas for increase include hydropower with the goal to double output (equivalent to a new 3 Gorges Dam every two years), wind, and biomass. Even so, renewable resources face additional hurdles in that they do not address the energy shortage problem in the near term and have much higher up-front costs than fossil fuel projects.8 In the eleventh five-year plan (2006-2010), the two quantitative development goals are to double the per capita GDP of the country by 2010 (compared with that of 2000) and to decrease the energy consumed per unit of GDP by 20 percent, targeting an annual savings rate of 4 percent. This goal builds on previous improvements in energy intensity levels between 1990 and 2005 that decreased intensity overall by 47 percent per unit of GDP (despite an increase from 2003 to 2005). Zhao Dadi, from the NDRC, China’s central planning bureaucracy responsible for setting development goals, believes that this can be done by scaling back the energy-consuming industrial projects that come online and by promoting new energy savings projects.9 Mark D. Levine from the China Energy Group at LBNL argues that China makes great efforts in energy efficiency but that it needs technical assistance and knowledge transfer (capacity building). He states that U.S.-China cooperation is key because between the two they account for roughly 40 percent of global energy use and its related CO2 emissions and therefore have the largest potential to reduce emissions growth.10

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Addressing China’s Energy Intensity

To address energy conservation in the long term, China must move its economy away from energy-intensive industries. To achieve China’s goals, the Chinese people need structural adjustment in terms of what they produce and physically how they use energy. Much of the country’s pollution problem comes from the transfer of manufacturing to China— 28 percent attributed to manufacturing in the energy-intensive sector. 11 Growth in the energy-intensive industrial sectors such as iron, steel, and cement continue to put a premium on China’s energy consumption. China manufactures many of the energy-intensive products the globe uses, including 48 percent of global cement production, 35 percent of steel, and 28 percent of aluminum. In the first two quarters of 2006, 70 percent of China’s industrial energy use was due to items such as steel, metals, chemicals, and building materials, which contribute only 20 percent to the industrial value-added.12 Industry contributes 46 percent to China’s GNP but consumes 70 percent of energy and emits 70 percent of its CO2.13 The residential sector accounts for 10 percent of energy demand, transportation for 7 percent, and the commercial sector for 2 percent.14 Restructuring of China’s reliance on energy-intensive industries—characterized by huge outputs, fast growth, and low efficiency—is the important goal to pursue. Some progress has been made in industrial consumption patterns. In 2006 energy intensity fell 1.23 percent per unit of GDP, but this figure was below the government's target to meet its 20 percent decline goal by 2010.15 Data covering January-September 2007 show that energy use per unit of industrial output for large companies dropped by 3.87 percent. Coal mining saw a fall of 7.76 percent, steel 6.49 percent, construction material makers 7.84 percent, the chemical industry 5.17 percent, and power companies 2.57 percent, while oil, petrochemicals, and nonferrous metal producers increased more than 1 percent. In the first half of 2007 the government reported that the electric power industry closed 10 million kilowatts of small-sized power generators and that the steel and iron industries halted 8.7 million tons of unnecessary steel production and 11.4 million tons of iron. Key energy-conserving projects have saved around 30 million tons of coal.16 As part of its industrial policy, the government taxes exports of energy-intensive industries, such as its 15 percent tax on copper, nickel, and aluminum; 10 percent on steel; and 5 percent on petroleum, coal, and coke. Chinese officials also placed import tariffs on energy and resource products such as coal, petroleum, and minerals.17

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Despite these taxes and other NDRC-issued guidelines to stop the blind investment in energy-intensive sectors, it has been hard to stop investment in areas where there is high demand.18 Part of this demand comes from the government, which spends disproportionately to build large infrastructure projects rather than focusing on energy conservation. Government investments in new buildings, highway construction, and railways promote market demands on cement, steel, aluminum, and other energy-intensive industrial products. Building and residential units account for 23 percent of Beijing’s fixed investment at around $270 billion. After real estate, the next-largest destination for fixed-asset investment is in the transportation infrastructure, which stands at $140 billion, with half of the investment going to highways. The auto industry and China’s growing car culture foster the building of new highways and work to block efforts to develop mass transit. In this environment, energy savings rely on improvements in efficiency standards and China’s ability to leapfrog old industry and vehicle technology.19 Nicholas Lardy from the Peterson Institute of International Economics states that Beijing must adjust its export-led growth model by deemphasizing manufacturing exports and expanding domestic consumption. He argues that such a change would reduce increases in energy consumption as well as help China sustain its growth, create new jobs, and slow the rising income gap as it reduces global economic imbalances. While Chinese leaders rhetorically acknowledge the need to rebalance the country growth model, to date only small (and inconsistent) steps have been taken to increase spending on the environment and energy-consumption side. The central drivers for this acceleration in energy demand are China’s increasing population, growth in its industry, the building and manufacturing sectors, and the greater wealth in a rising middle class that is driven by globalized markets. In addition, transportation is a looming problem; estimates are that cars in China will increase in number from 40 million today to 150 million by 2020.20 The IEA notes that to stick to these targets, China will need to embark on major new investments to reverse current energy-use trends that are dominated by dirty fossil fuels. The Chinese will particularly need to address their use of coal-fired plants in the power-generation sector.21 Addressing the Power-Generation Challenge

Looming above all this is the fact that without addressing China’s inefficient power-generation sector dominated by coal-fired plants (see

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Figure 6.1), government conservation goals cannot be met. These plants represent the fundamental pollution trade-off that comes with China’s coal use. As coal’s use doubled during the Deng Xiaoping reform period, with it came air pollution problems, so that coal is responsible for 70 percent of the dust and smoke in the air, 90 percent of the sulfur dioxide, and a majority of the carbon.22 Despite this, coal will remain the central source of China’s power-generation sector.23 Figure 6.1: China Power Generation (2005) Figure 6.1: Oil Nuclear Gas 3% 2% 1% Renewables* 5%

Coal 89%

*Renewables: Hydro Hydro -- 4.6%, *Renewables: 4.6%, Biomass Biomass and andWaste Waste -- 0.4% 0.4% Source: IEA, IEA, World World Energy Energy Outlook Outlook 2007. Source: 2007.

Coal is forecast to remain dominant in the power-generation sector at about these same levels to 2030. Coal demand will remain high because from national security and economic perspectives, coal continues to make sense for China in the short and mid-term. China relies on coal because of its large coal reserves and coal’s historically cheap price (about $1 per million British thermal units24) compared to imported natural gas, about $6 or $7 per million British thermal units— especially when a carbon price is not factored into the mix. Even if China reaches its goals to rely on coal for less than 60 percent of its overall energy mix, coal still is critical for China’s future. Other sources of power cannot meet China’s energy demands in the near future; for example, nuclear power is projected to provide less than 10 percent of China’s energy in 2030, and natural gas less still. Coal power plants will make up the difference. In 2005 China built seventy-five coal-fired plants, which each emitted 15,000 metric tons of CO2 daily. The high level of carbon emissions that will result will be exacerbated by the third-largest car market, which is expected to increase six times by 2020.25

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One problem is that China’s rapidly expanding coal-fired capacity remains inefficient relative to the developed world. In 2007 China’s coal-fired capacity increased by 110 gigawatts and was set to increase by 80 gigawatts in 2008. Based on IEA estimates, subcritical technologies (those only 30-36 percent efficient), which cost $500-600 per kilowatt, will remain the base of China’s current fleet. Supercritical technologies that can reach 41 percent efficiency at a cost of $600-900 per kilowatt will be about half of current new orders and ultrasupercritical that can reach 43 percent efficiency level at a cost of $600900 per kilowatt will have two 1000 megawatt plants in operation. The most efficient, integrated gas combined cycle (IGCC) technology can reach 45-55 percent efficiency at a cost of $1100-1400 per kilowatt. In 2008 there were twelve units waiting NDRC approval. However, IGCC technology faces high costs and needs more research, development, and deployment to be adopted more widely. If China’s coal fleet adopts these changes, the average efficiency of coal-fired generation could improve from 32 percent in 2005 to 39 percent by 2030. By prioritizing efficiency, China can save the power equivalent of two Three Gorges Dam projects by 2030. Reaching its goals becomes an issue of cost and enforcement.26 Increased efficiency, a function of technology, will mean that plants will generate more power using less coal while producing lower emissions. In OECD countries coal plants average a thermal efficiency of 36 percent, while the number is only 30 percent in developing states such as China. In climate-change terms, developing states emit 20 percent more CO2 per electricity unit produced than an average unit of electricity in developed states. In November 2007 the China Huaneng Group put into operation China’s largest coal-fired plant equipped with four 1,000-megawatt generating units. It is the world’s largest coal-fired plant built with the most efficient ultra-supercritical technologies. It was built at a cost of $2.1 billion. If all coal-fueled plants used this technology, 200 million tons of coal and 540 million tons of carbon dioxide could be saved each year.27 For China’s coal use to become more efficient, Beijing seeks to consolidate its fragmented coal sector. According to a 2007 coalindustry policy brief, China would use its vast coal reserves more efficiently by consolidating mining operations, promoting the best technology, pursuing efficient and safe mining practices, and simultaneously addressing development and environmental priorities. 28 Chinese officials seek to consolidate a major portion of the coal sector into six-eight large coal companies with an output of 100 million tons and eight-ten operators with a capacity of 50 million tons by 2010. 29

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These targets are part of the goal to close 50 million kilowatts of thermal power capacity across the eleventh five-year planning period. In 2007 the government closed 533 small thermal power generators.30 With China’s growing car culture and increased oil dependence, strategies to change the transportation energy mix fit squarely into the discussion of China’s coal usage. China’s government has prioritized coal liquefaction processes (also known as coal-to-liquids, or CtL) to help wean the country away from imported oil. Until recently CtL was hindered by the low crude oil price and its wide availability, but this changed with recent price spikes and shortages. Existing CtL practices create diesel fuel to replace conventional oil but emit more than twice the GHGs as oil production does.31 Despite the potential carbon spike, China looks set to become the world leader in CtL production, with eighty-eight CtL projects included in the eleventh five-year plan (20062010) and a further twenty to thirty in the works. China’s domestic coal producers gamble that oil prices will remain high enough for oil substitution to be economically viable. China’s leading coal producer, Shenhua, has a CtL plant that is a global test case for direct coal liquefaction. Shenhua uses its own technology, with much of the research and development supported by large government grants over the past ten years. Foreign technology providers such as Shell and South Africa’s Sasol, a world leader in producing synthetic fuels from coal, also have joined China’s CtL craze. Assuming that the price of oil rebounds and remains high and these CtL projects are successful, production of oil substitutes may account for 10-15 percent of China’s coal consumption by 2015. It will provide the equivalent of up to 2 million bpd of oil products in an environment in which China currently consumes about 7 million bpd. CtL transport fuels can address China’s energy security challenge, but because these fuels have a significant carbon footprint, they do not address the GHG challenge. The driving factor behind investment in CtL is to make more efficient use of coal supplies rather than to offset climate change. Despite some mixed investment signals, China has encouraged investment in its domestic energy sector more than in the past. Companies such as Shell, Sasol Ltd, and General Electric (GE) have track records of working with Chinese companies to produce electricity and substitutes for crude oil derivatives from coal. Once proved feasible industrially and commercially, joint coal projects and large coal chemical projects are expected to start in China's coal-rich western regions. Peabody Energy, for one, has opened a Beijing office to facilitate its investments, while Sasol Ltd has plans to develop two CtL plants in cooperation with China's Shenhua Ningxia Coal Group and

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Shenhua Coal Group. Chinese commerce minister Bo Xilai states that foreign companies with clean coal technologies and who work with Chinese counterparts can get good returns on their investments. Even skeptics see clean coal investment as an important means for China to ease its reliance on foreign oil and curtail its GHG emissions.32 Energy Policy Implementation Challenges

Although China’s conservation laws and the NDRC attempt to change China’s energy practices, progress has been slow. The government has tried to shut down energy-intensive industries and to force consolidation so that China reduces energy consumption and can compete with firms in Japan, South Korea, and elsewhere, but these enterprises are sheltered by localities. For example, the number of steel enterprises doubled between 2002 and 2006 as profits increased. There are seven thousand steel enterprises in China, with the largest three accounting for only 14 percent of total production in 2005 (the top three in the United States control over half of production). Campaigns to consolidate coal production face resistance because over half of China’s coal is still produced in ten thousand small local mines. Of cement enterprises, although the central government asks that all small projects be shut down for energy efficiency purposes (and to slow economic development), those that have been closed were soon reopened because of the strong demand for cement. Similarly, China’s power-generation sector remains dirty and inefficient, in part, due to the deliberate actions by local officials to keep open plants that provide local jobs and that keep cheap energy readily available. Nearly 90 percent of China’s electricity comes from coal-fired plants, but less than 15 percent of them have systems to remove SO2 installed or running. As the central government attempts to consolidate energy suppliers into larger power plants where environmental technologies are employed, local governments have encouraged the proliferation of small plants under 50 megawatts (which in practice usually release three to eight times more particulates, consume 60 percent more coal, and add negatively to health and environmental concerns).33 They use a loophole in the law that allows local officials to approve the building of small plants (less than 50 megawatts) that do not need NDRC approval or State Council approval. Ironically, these are precisely the ones the central government tries to shut down.34 Companies and local officials often work together to resist any new standards and central government mandates because they increase costs. When threatened with environmental enforcement, industry complains

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to sympathetic local officials of a loss of competitiveness with provinces next door (that is, jobs and tax revenue).35 Some areas are more open than others. The areas whose wealth is derived from foreign investment are much more progressive and open to change. Communities with ties to the international community and financiers such as the World Bank or the Asian Development Bank and countries such as Japan have been the direct beneficiaries of attempts to increase energy conservation. For example, in 2008 Beijing was in line for one U.S. Department of Energy demonstration project focusing on developing best practices and energy savings standards precisely because the U.S. government has close contacts with Beijing’s planning agency that is receptive to these changes.36 Further, provinces differ on their openness to changing their practices. While the central government actively encourages foreign investment, some provinces have taken a different tact. For example, some local governments restrict foreign ownership in coal mines; such ownership is restricted to 40 percent in Shanxi Province.37 Exacerbating the problem, growth-at-any-cost remains the push at the local level, and growing global trade surpluses remain in place. 38 Getting China’s local government on board is essential to promoting broad energy efficiency programs (or any changes in energy use) because these are the officials in charge of implementing any such plans. For example, the LBNL partnership with the city of Shanghai to promote building efficiency due to Shanghai’s building boom provides a successful model. However, the real challenge is gaining traction outside the major east coast cities.39 In a report prepared for the OECD, Wang Yanjia from Tsinghua University notes that Beijing adopts mainly administrative methods to limit outdated production processes and to shut down inefficient smallscaled enterprises. In general, she believes that most policies are clear in principles but short on implementation. They provide guidelines or directives rather than enforceable measures. Further, financial support for energy efficiency is part of many policies, but funding allocation is separate from the policy itself and has been low.40 In other words, estimates of specific targets for efficiency gains and CO2 emissions have not been included, monitored, or reviewed. She argues that these are weak points in China’s policymaking in energy efficiency.41 Without a strong center to serve as advocate, monitor, and enforcer of conservation practices, development at-any-cost interests prevail and the status quo persists.42 To make consistent progress, China’s decisionmakers will need to reconcile the need to control energy use growth with the need to maintain economic growth. However, without greater enforcement tools, these efforts will stay uncoordinated.

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A New Domestic Effort to Prioritize Conservation—A Look at China’s 2007 Energy Conservation Law

The Energy Conservation Law of 2007 is the Chinese government’s latest effort to implement an energy-saving society and overcome local resistance.43 In 2007 Xu Dingming, then vice chairman of the Office of the NELG, argued that China's rapid economic development had led to a situation where conserving energy and improving energy efficiency were now an agreed-upon priority within society. However, to make real progress, “all levels of government from central to local must put more emphasis on the work of energy conservation … and afford this work a more prominent place.”44 The 2007 law put in place for the first time overarching guidelines for efficiency to be coordinated by the office of the NELG (functions to be taken over by the NEC) and put some regulatory teeth with the policy. Anticipated to replace the previous diverse set of energy laws, it defined China’s energy security in terms of energy management, development, supply, storage, and preservation covering energy technologies, international cooperation, and fiscal and tax policies. 45 One report notes that a 7-billion-yuan ($933 million) reward scheme encouraged companies to conserve energy and reduce emissions. This is part of a 23.5-billion-yuan ($3.09 billion) program by the Ministry of Finance to promote energy efficiency and reduce pollution. Rewards go to enterprises that fulfill emission-reduction requirements to promote technological innovation. In 2007 3 billion yuan ($394 million) was set aside to improve data collection and environmental monitoring. Two billion yuan ($200 million) will be used to compensate and retrain workers from inefficient enterprises that were closed down. A Ministry of Finance official states that there has been a change in local practices to the extent that provinces such as Jiangsu, Shanxi, and Shandong have committed up to half of their revenue for energy conservation. Only enterprises and governments that make effective expenditures in energy conservation will be rewarded. A public campaign takes this message to the grassroots to build support for energy-conservation policies. As part of its new “scientific concept of development,” the government also set mandatory targets and said it will monitor nationwide efforts to conserve energy and reduce emissions to enforce its targets. It threatens to block the promotion of officials and SOE heads who do not meet the targets.46 National environmental protection officials argue that violators will be shamed and subject to state supervision as part of the new energy conservation plan. Further, the government will not approve high polluting and energy consuming projects, and their access to bank loans

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will be affected by a “green-credit” policy that had SEPA, now the Ministry of Environmental Protection (MEP), hand over lists of polluters to the central bank and regulatory commission.47 If the central government monitors the performance of provincial governments in one thousand key energy-intensive companies as it claims, an effective accountability system may come into practice. Just increasing the accuracy of energy consumption figures is an important part of China meeting its energy consumption and environmental goals.48 Repeatedly experts note the insufficient supervisory system and government enforcement ability. The law does not end the problem. In fall 2008 China considered going a step further by imposing a green tax on polluters to cut emissions. The ministry would work with banks and insurers to accelerate the growth of clean energy while making energyintensive industries less appealing.49 The reshuffling of China’s energy bureaucracy in 2008 corresponds to changes in its environmental bureaucracy that raised the old SEPA to ministerial rank. But it is an open question whether this reshuffling has strengthened the weak state of China’s environmental bureaucracy. Most of its efforts have been weak, and the environmental bureaucracy was kept out of many of these policy discussions. MEP officials may vow to get tough on local officials and companies who fail to meet energysaving and pollution-reduction targets, but in practice they have faced an uphill battle in terms of access and resources.50 On a practical level, past enforcement was hindered by cuts in SEPA’s personnel from six hundred to three hundred, which came after the government reorganized in the mid-2000s. Similar cuts in related ministries have made it difficult to coordinate or enforce high-level environmental policy.51 With the March 2008 reorganization of the environmental bureaucracy into a new MEP, the organization may gain greater authority to enforce environmental mandates. Before the reorganization, Pan Yue, vice minister of SEPA, argued that without a strategic environmental evaluation system, “China will not solve the problem of its too high resource and environmental price for economic growth. Without strategic environmental evaluation, more energy-consuming and heavypolluting industries [will] spring up.”52 The most important tasks of the new MEP are to enforce environmental standards and to oversee compliance of firms.53 Another tool available to the central government is to use the international system as an outside maneuver to push for local change. Bilateral negotiations such as the China-U.S. energy-policy dialogues lead to agreements to cooperate on increasing energy efficiency in China’s industrial sector, which creates mandates that the Chinese

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government can blame for local change. The agreement in September 2007 to jointly conduct audits to increase national, regional, and local energy efficiency at as many as twelve facilities may be controversial and need the “national interest” frame to overcome local resistance. 54 International actors also have used their influence to persuade Chinese colleagues to experiment with market-based mechanisms such as reforms in pricing of natural resources, tradable permits, and environmental service companies.55 These multilateral mechanisms provide new expert networks and broaden the domestic debate. Each new international environmental effort has led to the development of expert communities in China with international ties to outside experts. Increasingly, Beijing has diversified the sources of policy analysis to target these expert scholars and analysts. These outsiders now regularly participate in internal study groups, write reports, and draft policy briefs for the government. They travel abroad, interact with international experts in their field, and help sensitize China's leaders to international trends as well as presenting them with a range of policy options.56 In time these experts have become advocates with strong ties to international scientific communities who are committed to enhance China’s international image and to avoid sanctions for not participating in environmental regimes.57 Such contacts keep the aid and technology flowing, which, in turn, incentivizes the change to become more energy conscious. Looming as the next significant issue and opportunity for investment is the climate crisis that energizes the outside world to look more closely at China’s energy practices. China’s Climate Security Challenge

Given that current energy-use practices and CO2 are highly correlated (in that the more fossil fuels consumed, the more CO2 emitted and the more GHGs in the atmosphere), China’s development path fuels a GHG nightmare.58 The IEA projects that without an aggressive mitigation strategy, CO2 emissions are set to almost double globally, much of this due to developing countries, including China and India, through 2030.59 On one level, the climate change crisis raises the harbinger for competition over dwindling natural resources, which at its most dire increases the possibility of conflict over resources such as energy, water, and land.60 However, the real challenge arises from the long-term consequences if energy use behavior does not change and particularly from the link to economic development. Energy security and climate problems are interconnected because they share economic consequences

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and potential solutions on both the supply and demand side. However, despite the dire predictions and calls for immediate action by the Intergovernmental Panel on Climate Change (IPCC), there is still no agreement on a post-Kyoto roadmap for emissions reductions or an accompanying energy-use plan. The failure in Bali in December 2007 and since to set global targets for GHG emissions demonstrates that policy questions remain unsolved and that a few intransigents (that is, the United States and developing states such as China, in particular) have the power to stop consensus on a global climate response. Failure to reach an agreement in Bali reflected differences in perspectives on political questions from when, how, and why to reconcile climate change to broader questions of energy use and economic development. On the supply side, reducing the use of imported oil and diversifying the energy mix beyond fossil fuels improve energy security in terms of oil dependency. On the other hand, addressing climate change means reducing the use of dirty fossil fuels (as the central means to reduce/prevent emissions), which is related to the goal to reduce oil consumption that comes with energy security. The common solution to both issues is to diversify the energy supply with a particular focus on low-carbon energy sources. On the demand side, increasing energy efficiency helps to use the energy supply more effectively with the simultaneous benefit of reducing emissions. However, any carbon solution must involve the two leading emitters and fossil-fuel consumers. As the top two emitters, China and the United States account for nearly half of the world’s CO2 emissions, a majority of this coming from their use of fossil fuels. Although China’s emissions surpassed those of the United States, from 1950 to 2002 China's CO2 emissions from burning fossil fuels accounted for less than 10 percent of the global total.61 Figures 6.2 and 6.3 illustrate China and U.S. CO2 emissions from their use of fossil fuels.62 From a GHG emissions perspective, all three fossil fuels are problematic, particularly without the adoption of new technologies to mitigate carbon emissions. Mitigating carbon successfully requires a change in behavior in the power-generation and transport sectors, in particular, because demand for electricity and transportation accounts for 66 percent of the globe’s total CO2 emissions.

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In China power generation and industry are the main culprits. Given the large coal deposits in China, it will remain important to China’s energy security strategies. Even if China reaches its nuclear and renewable-energy goals, coal will still represent the majority of China’s energy mix by 2030. In the industrial sector steel and cement are the main drivers of emissions, and steel production is expected to double and cement to more than double by 2030. In the building sector, emissions can be reduced with high-efficiency standards for lighting, appliances, and improved building practices (discussed previously).63 Of the three fuels, natural gas is the most environmentally friendly. In fact, natural gas use has expanded in home heating and in transport due to its environmental benefits. In a climate sense, coal is the dirtiest, but its competitive position could be enhanced by clean coal technologies in new plants or by retrofitting old plants that enhance efficiency. Politically it has been difficult to motivate China to make the investment needed to mitigate CO2 emissions. Some argue that removing barriers to energy investment in China could contribute more to climate protection than any international treaty. China has made energy efficiency and sustainable energy development top priorities. However, red tape limits progress, as do restrictions on debt financing and investment patterns that have coal investments leading clean energy development by 10:1. Restrictions include requirements for joint ventures and confiscatory tax policies.64 Newer reports argue that there is mainstream attention on climate change now because many Chinese are rich enough to put environmental concerns ahead of development. With about $11 billion spent in 2007, China may soon be the world’s largest investor in green energy. The Ministry of Public Safety lists pollution as among China’s top five threats to peace and security. Despite this concern and new investments, though, these savings are still outpaced by industrial energy demand and poor management of the energy sector.65 The World Energy Congress maintains that the dual challenge of climate change and higher energy prices can propel the developed world toward greater efficiency and attract needed financial resources for infrastructure and investment to make the transition.66 As such, while oil prices remained above $100 per barrel, prospects seemed good for governments to work together to establish global rules for energy trade, to set a stable price for carbon, to foster cooperation across the globe, and to develop partnerships to transfer clean-energy technology and expertise to the developing world.

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Global Climate Crisis Responses—Greater Energy Collaboration or Acrimony?

At the center of the climate controversy have been disagreements on the appropriate strategy to embrace, the time frame, and how to share the economic burden of emission reductions—with China leading the bandwagon to oppose mandatory targets. Although China signed the Kyoto Protocol in 2002, it is under no legally binding commitment to limit GHG emissions. Developing countries, in general, and China, particularly, view efforts to set absolute greenhouse gas targets as attempts to cap to their economic growth. This perspective rests on efforts to maintain sovereignty over natural resources and the ability to develop economically as cheaply as possible. Joanna Lewis argues that China will not commit to absolute targets but might agree to reduce GHG emissions or seek intensity targets linked to economic growth. She sees China’s climate strategy as an energy-development strategy because the causes of climate change are inherently linked to the emissions from fossil fuels.67 NDRC director Ma Kai states that China is committed to addressing climate change in the context of sustainable development by adhering to the “principle of common but differentiated responsibilities.” China, coordinating with other G-77 countries, argues that developed countries should take the lead and bear the cost to reduce emissions due to their historical responsibility for the carbon problem.68 At an April 2008 meeting of United Nations (UN) climate change talks, the U.S. rejected a Chinese proposal that 0.5 percent of the GNP of industrialized states be used to spread nonpolluting and energy technologies.69 In mid 2007 Premier Wen Jiabao stressed the hard work that has been done to adjust China’s economic structure with plans for energy conservation and correspondingly a reduction in emissions to cope with climate change.70 The goal in China’s National Climate Change Program, released in June 2007, pushed the eleventh five-year plan to quadruple economic growth but only double energy consumption. As with past plans, the climate plan targets certain products and industrial sectors. It also ties government job performance of local officials to conservation goals. In addition, the plan reduces energy intensity, air pollution by 10 percent, and emissions, promoting advanced technology initiatives (including development of IGCC technologies) and retiring inefficient power plants with a capacity of less than 50 megawatts by 2010.71 Industrialized states resist costly retrofitting without commitments from the developing world to further their own reductions—particularly

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because the bulk of future emissions will come from the developing world. Industrialized states argue that the developing world will benefit most from climate change mitigation efforts and should pay some of the cost.72 In May 2007 U.S. president George W. Bush promised, “[W]e'll work with developing nations to find ways to address their energy needs and the challenge of global climate change by harnessing the power of technology, by each country establishing its own midterm national targets and programs that reflect their mix of energy sources and future energy needs.” 73 During the September 2007 Major Economies Meeting on Energy Security and Climate Change, which paralleled the UN climate change meeting, President Bush said that the solution would come with technology and particularly clean-coal technologies.74 These perspectives point out the differences that exist in the debate. The Human Development Report 2007/2008 argues that the Montreal Protocol might offer the best model to overcome the current bottleneck. The report contends that involving the developing world now offers an opportunity for low-cost emission reductions due to leapfrogging and designing more efficient power plants. Without broad cooperation, however, carbon leakage will mitigate any gains by the U.S. or other parties. With that instance in mind, developing-country participation was secured through a multilateral fund in which targets for phasing out substances were met by developed countries. Technology transfer facilitated this transition. Through Kyoto’s “Clean Development Mechanism” (CDM) model, which incentivizes carbon savings and technology transfer, there is a way to finance mitigation in developing countries.75 Peter Ogden, John Podesta, and John Deutch see the transfer of U.S. and OECD technology to countries such as China and India as the greatest opportunity to facilitate their participation at the global level in climate change mitigation programs.76 Going further, the Human Development Report argues that carbon pricing under a CDM model is a start but does not deploy technology at a fast enough pace. The report calls on governments to launch a bold program as they did in response to other security threats such as the Manhattan Project. It states that an international strategy is needed to support financial and technological support for low-carbon power generation in the developing world. Current spending in research, development, and deployment on low-carbon transition is low, with spending in OECD countries one-half of the level it was in the 1980s in the energy sector. In contrast, subsidies to fossil-fuel-based power and nuclear power create disincentives for investment in renewable energy and slow the pace of innovation.77 In a 2007 survey by the World Energy Congress, more than half of respondents cited a lack of

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technology as the major obstacle for the development of more environmentally acceptable energy practices and prodded governments to play a larger role in fomenting advancement in sustainable technologies.78 The challenge that climate change poses for China and others is the need to balance the economic value of fossil fuels with pressing environmental concerns that call for the use of environmentally friendly energy. Various strategies such as increased energy efficiency, cleaner fuels, greener power generation with carbon capture, and more efficient transportation can lead to a low-carbon world with sustainable economic growth.79 Leading economists such as Jeffrey Sachs and climate-change experts argue that aggressive investments beyond what has been allowed for in research and development, and aggressive deployment of new technologies must occur if global warming is to be addressed. Without this deployment in the next twenty-five years catastrophe cannot be averted.80 Addressing China’s Coal Challenge in Climate Terms

Despite all the debate, coal is set to remain China’s primary energy source well into the century. With the country’s world-leading coal reserves and two-thirds of its total energy consumption coming from burning coal, China’s economic growth is very polluting. A major adjustment is needed to create a low-carbon economy, and greater efficiency in power generation is an obvious place to start. Replacing old plants more rapidly with more efficient IGCC technologies with carbon capture and storage (CCS) could raise efficiency levels to 45 percent and address GHG emission levels.81 CCS technology makes it possible to separate the gas emitted when fuels are burned into liquid or solid form and transport it to where it can be stored. In theory, any coal plant can be retrofitted for CCS, but IGCC plants are the most adaptable to this technology and the lowest cost option. However, finding the financing for big front-loaded investments in new technology in the context of higher risk investment presents obstacles to technology deployment. New IGCC plants cost up to $1 billion more than conventional plants, and CCS is estimated to increase operational costs of electricity generation by 35-60 percent. CCS has been slow to deploy, and there will be only eleven such plants operating by 2015, saving only 0.7 percent of total coal-fired power emissions.82 A comparison of China’s coal-fired power fleet’s carbon dioxide emissions to those of the global standard and newer technologies shows just how far China has to go—today the Chinese coal fleet averages 1140 grams

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of carbon dioxide emissions per kilowatt hour while the global standard is 22 percent lower at 892 grams per kilowatt hour. With supercritical coal technology with CCS it is estimated that the Chinese carbon dioxide fleet averages could be reduced by 92 percent to 94 grams per kilowatt hour.83 By adopting newer technology, China could significantly increase its efficiency and reduce its GHG emissions. However, these technologies are more expensive, and some, such as CCS, have yet to be commercialized fully.84 Insiders note that China is adopting the most efficient plants but that this move does not address the carbon question. China is currently constructing the equivalent of two 500-megawatt coal-fired power plants per week and a capacity comparable to the entire United Kingdom power grid each year. To make inroads on this demand, the priority objective with respect to coal must be the successful large-scale demonstration of the technical, economic, and environmental performance of the technologies that make a large-scale integrated CCS system. Such projects are a prerequisite for broad deployment at the scale needed to respond to pressures to adopt a carbon mitigation policy, as well as to meet the world’s future energy needs. The pace of deployment of coal-fired power plants with CCS depends both on the timing and level of CO2 emission prices and on the commercial viability of CCS technology.85 The necessary CCS technologies have been in use for years, but not with the intent to reduce CO2 emissions. For example, enhanced oil recovery projects have been an important early carbon market that may serve as a model. The immediate need in the world is to speed the pace of these projects. Carbon needs a monetary value for research and development to move forward and needs a huge investment if the estimated deployment of around six thousand new projects is to reach the goal of sequestering one million tons of CO2 per year. In addition, new infrastructure in terms of pipelines and facilities for CCS are necessary for CO2 transport. In the U.S context, an important multilateral mechanism for the transfer of clean energy technologies has been the Department of Energy’s Carbon Sequestration Leadership Forum. Chartered in 2003 and involving twenty-one countries and the European Union, the forum is made up of entities that are producers or users of fossil fuel and have a commitment to invest in the research, development, and demonstration of carbon capture and storage technologies. Without deployment of more efficient plants, it will be hard to mitigate GHG emissions without more expensive retrofitting of power plants later.86

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The commonality across most political and industry voices is in favor of an appropriate regulatory environment to promote “clean energy” technological innovation, appropriate market mechanisms, and technology deployment to address GHG reduction.87 Government and industry groups argue that overcoming barriers requires the cooperation of state and nonstate actors in the developed and developing worlds, with global financial institutions along with governments funding the shift, and the energy industry implementing change.88 Most plans call for placing a price on carbon, which takes the form of auctioning off tradable permits to emit carbon in a cap-and-trade system89 or as a carbon tax.90 Announced in 2003, FutureGen was to be the model project. This 275 megawatts-gasification (IGCC) syngas conversion, separation, and capture project estimated to cost $1 billion was to be coordinated multilaterally (within the United States by the Department of Energy) with government and industry partners from China, Japan, South Korea, and India. It would operate as a voluntary public-private partnership with a purpose to design, build, and operate the world’s first coal-fueled, zero-emissions power plant to tackle climate change. The prototype plant was slated to come online by 2012, but cost overruns led to its cancelation in January 2008.91 This cancelation has some important ripple effects. It wasted the long-term connections and capital that had been built up between the Chinese and the Americans and signaled that American commitments could not be trusted. This point is critical because such joint projects are essential to changing China’s behavior because they provide the financial incentives and needed partner linkages for China to move toward adopting clean energy technologies. The U.S.-led Asia-Pacific Partnership on Clean Development and Climate (APP) is another multilateral partnership that can stimulate joint ventures and investment in various sectors to create a lower-carbon economy.92 The Bush-initiated APP has working groups focusing on areas from clean coal and renewable energy to buildings, appliances, cement, and steel. The partnership works with public- and private-sector partners to meet goals for “energy security, national air pollution reduction, and climate change in ways that promote sustainable economic growth and poverty reduction.”93 The challenge in the APP structure has been the development and deployment of specific projects to its Chinese and Indian partners. The communiqué from the second ministerial meeting from October 2007 calls the organization an innovative partnership that focuses “on practical solutions” and accomplishments in terms of detailed action plans and collaborative projects94 “to promote and create an enabling environment for the

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development, diffusion, deployment and transfer of existing and emerging cost-effective, cleaner technologies and practices, through concrete and substantial cooperation so as to achieve practical results.” 95 The partners work to integrate climate and development goals to find practical win-win opportunities for clean growth. In addition, they collaborate in a voluntary initiative across the public and private sector and implement through a sectoral, bottom-up approach.96 Sideline discussions at these bilateral meetings reveal persistent challenges to this partnership model. Funding has been sporadic, with the U.S. APP funding coming online only in late 2007. The Chinese find it problematic that most joint projects focus on “soft” activities such as information sharing, capacity building, and standardization. Director General Gao Guangsheng, from the Office of National Climate Change Committee, notes that “there are almost no joint R&D projects between developed and developing Partnership countries.” To him, the core issue is “the price of technology transfer and dissemination.”97 For China, there needs to be a financial mechanism to facilitate cooperation among the private sectors of partner countries. Project deployment faces three broad challenges. First, China expects technology at a reduced rate or at cost. However, this is not an option in the modest budget set aside for projects in China or in the current budget environment within the U.S. Congress. Underlying this need is the imperative for funding at appropriate stages that include development and deployment of projects. Projects need to go through these steps to test their commercial viability. Second, issues of intellectual property rights arise with any investment in China. Producers of technology need guarantees that their technology will not be stolen. Third, both sides have national security sensitivities to keep in mind. For example, China frequently asks for technology (such as highresolution satellites to map coal fires) that the U.S. considers dual use and will not make available to the Chinese. For its part, China remains sensitive about its geological information and sees mapping as a national security issue.98 As noted, China’s calls for financial incentives and help to finance technology transfer cause the greatest friction. One of the problems may be linked to China’s fundamental identity crisis as either a developing or developed nation, which is apparent in its shifting global rhetoric. In negotiations for FutureGen, in the APP, and in other forums, there is a repeated call by China for reduced-priced technology transfer to the developing world to address its growing energy and environmental problems. China has proposed a Technology Development and Transfer Board to oversee and implement technology transfer to the developing

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world.99 China’s clean economic development is dependent on the global integration of the energy system making it costly to become technologically isolated or institutionally isolated in energy or climate change negotiations.100 While the examples above illustrate that a number of efforts are under way, there is no coordinated effort to deploy CCS and other technologies globally. If a post-2012 framework includes emissions targets, the incentive for others to make policy commitments comes with trading marketable emissions credits.101 Abundant external investment is necessary for China and beyond if the developing world is to adjust to a low-carbon economy. Elizabeth Economy reports that up to 80 percent of China’s past environmental protection budget has come from overseas. For example, China is the largest recipient of CDM monies, is the largest recipient of environmental aid from the World Bank, and has received significant aid from the Asian Development Bank. During 2000-2001 alone, the World Bank provided $1 billion in loans for water conservation and improving Beijing’s environment.102 China’s recent focus on assistance has been advanced coal technologies, but energy-efficient buildings, clean-vehicle technology, and advanced industrial technology also have great mitigation potential. Energy efficiency is considered appealing because it represents the “low hanging fruit” in that making these changes burns no fuel, emits no pollution, and costs from one-sixth to one-third the cost of generating power in China. It also avoids the need for additional generation facilities and infrastructure. As such, it can contribute to both short- and long-term energy goals. Bo Shen from the Natural Resources Defense Council in Beijing states that energy efficiency could meet between 29 and 56 percent of China’s forecast 2014 electric load growth. The council is working with the NDRC and the newly established National Energy Administration to initiate a yearlong nationwide training program on energy efficiency to build human and technical capacity.103 Further addressing the inefficiency of China’s industry through an energy-efficiency policy could mitigate CO2 emissions tremendously. China’s industrial contribution to GDP hovers around 40 percent, and industry consumed 67 percent of total final energy in 2003, producing a corresponding amount of CO2.104 Energy-efficiency gains in carbonintensive industry and technological innovations as well as increased use of natural gas and renewable energy can lower China’s carbon signature considerably. At the head of these efforts to mitigate the carbon signature of traditional fossil fuels is the call for economic incentives needed to move this goal forward.105

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Conclusion

The rise of energy security concerns as seen through a domestic development or climate lens can have important consequences for global energy stability and coordinated environmental response. Essentially, China and others must substantially reduce consumption of fossil fuels (or clean up their use), increase efficiency, and explore ways to capture and bury the carbon by-products of the fossil fuels that are consumed. In the United States the largest share of carbon comes from consumption of petroleum, which suggests that practices that reduce oil consumption, such as motor vehicle fuel-efficiency standards, incentives for hybrids, and public transportation, should be a priority. Coal, as the major source of carbon in China, necessitates improving power plant efficiency and filtering out harmful emissions and sequestering carbon.106 Decision-makers need to wake up and recognize the scale of change that is needed to achieve energy security and climate security. Given the slow pace of financing and deployment in China and beyond, there is a risk of carbon lock-in if a number of actions are not taken now. For China to truly embrace “clean energy” and, by definition, a lowercarbon economy that would include implementing policies to address climate change more directly, its concerns over the cost of moving toward higher-efficiency coal technology and CCS technology will have to be addressed. Because China’s goal is to address its real pollution and sustainable development problems and to be seen as a responsible stakeholder in the world system, it has incentive to cooperate. Over time it has adopted environmental standards, an environmental bureaucracy has developed, and the economy has become more efficient. China has made this progress with the constructive cooperation of states such as Japan and the United States. However, the United States can play a more constructive role in China’s future energy transformation by leading by example and helping China meet its energy intensity targets, by encouraging clean-energy technology transfers, by focusing on constructing demonstration projects aimed at efficiency and carbon control, and by providing financial incentives. However, commitment to a post-Kyoto framework and a real carbon-control policy that could make real progress has awaited the accession of Barack Obama to the presidency.107 The previous discussion illustrates that China does not follow a predictable or rational course of action to improve its energy security. The focus on energy policymaking and the resulting bureaucratic processes illustrates an eclectic crisis-driven policymaking process.

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China’s leaders grapple with political, social, and economic changes brought about by rapid domestic growth that both limit and create opportunities in its foreign policy. In the energy sector, China faces the dilemma of reconciling powerful domestic groups and local governments with its broad national priorities. As such, the issues involved in the energy issue blur the distinction between foreign and domestic policy and create intermestic policy conditions that have both foreign and domestic policy aspects. The government scrambles to use all tools available, to rationalize its policy, and to create a bureaucratic organization that can effectively promote its energy goals. It has made some progress but has far to go. For the most part, different stakeholders with different perceptions have come to the policy table, leading to a hodgepodge of uncoordinated energy policies. Those in the United States and elsewhere who ignore China’s domestic political drivers and define China’s quest for energy security solely in terms of its growing equity positions around the world ignore the competing interests at play in China and possible areas of bilateral and multilateral collaboration. We must avoid the too-simple analysis of China’s goals and intentions that emphasize growing energy vulnerabilities and define energy security narrowly in terms of geopolitical threats.

1 IEA, World Energy Outlook 2007, p. 376. See also Zha, “China’s Energy Security.” 2 Zhao, “China’s Energy Procurement Strategy.” See also Zhao, “Energy and Conflict”; Oon, “China Must Do More”; Lampton and Kong, “China Comes in from the Cold.” 3 Li, “Energy Use ‘No Threat’ to the World.” 4 See, for example, Berrah et al., Sustainable Energy in China. 5 Xia, “Partnerships Will Help Solve Energy Conflicts”; Zhou, “Five Steps to Prevent Future Energy Woes.” 6 Lewis, Testimony before the U.S.-China Economic and Security Review Commission, p. 3; Lampton and Kong, “China Comes in from the Cold.” 7 Borgford-Parnell, “China’s Renewable Energy Law.” 8 Shen, “International Cooperation.” 9 Economy, The River Runs Black, pp. 60-63; NDRC, PRC, “China’s National Climate Change Programme.” 10 Levine, Testimony before the U.S.-China Economic and Security Review Commission. 11 See Jain, “Japan to Shift Aid Focus.” 12 Rosen and Houser, China Energy, pp. 5-9. 13 Wang, “Energy Efficiency,” p. 9.

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14 Rosen and Houser, “China Energy,” pp. 5-9; Zhou, “Five Steps to Prevent Future Energy Woes.” 15 Fu, “Accuracy under the Spotlight.” 16 “Workable Measures Adopted”; Fu, “Accuracy under the Spotlight”; Sun, “China’s Energy Use.” 17 Lewis, Testimony before the U.S.-China Economic and Security Review Commission, p. 4. 18 Wang, “Energy Efficiency,” pp. 10-17. 19 Rosen and Houser, “China Energy,” pp. 12-16; Zhou, “Five Steps to Prevent Future Energy Woes.” 20 Brookings Roundtable, “A Climate of Change.” In the U.S. context, some call for an integrated approach to energy technology innovation including a multi-year national energy RD&D strategy and increasing budgets. See Ogden et al., “A New Strategy to Spur Energy Innovation”; and Lampton and Kong, “China Comes in from the Cold.” 21 See Li, “China's Energy Intensity Climbs.” Zhao Dadi, from the NDRC, argues that this growth is driven by local officials’ desire for outstanding growth rates. Such breakneck growth, however, is unsustainable because surplus capacity continues to expand in highly energy-consumptive sectors such as steel and metal. 22 Economy, The River Runs Black, pp. 72-76. 23 Ma, “China Is Shouldering Its Climate Change Burden.” 24 A British thermal unit (BTU) is the amount of heat required to increase the temperature of a pint of water (which weighs 16 ounces) by one degree Fahrenheit. Since BTUs are measurements of energy consumption, they can be converted directly to kilowatt hours (3,412 BTUs = 1 kilowatt hour) or joules (1 BTU = 1,055.06 joules). 25 Deutch et al., “China’s Energy Challenge,” p. 55. 26 IEA, World Energy Outlook 2007. 27 “China’s Largest Coal-Fired Power Plant Starts Operation.” Background discussions with U.S. and Chinese sources confirm how difficult it is to close small coal mines when the coal is needed. 28 See “China Coal Industry Policy 2007.” 29 Ng, “China Coal Buying Mine from Parent.” 30 “Coal Fired Power on the Way Out.” 31 Furman et al., “An Economic Strategy to Address Climate Change,” pp. 5-7. Coal gasification involves reacting coal with steam and oxygen at high temperatures to produce a synthetic gas (syngas) that contains 80 percent of the original energy in the coal. The syngas is used to manufacture industrial gases such as hydrogen or is liquefied to form fertilizers or feedstock for liquid fuels. CtL advocates argue that although the process releases carbon dioxide, this can be more easily captured than in a conventional coal plant; see Miller, “AsiaPacific.” Direct liquefaction, in contrast to the conventional indirect process, yields a higher thermal efficiency. However, environmentalists oppose the technology because, by cutting out the gasification process, direct liquefaction produces a much dirtier liquid that is higher in pollutants such as sulphur. 32 “Foreign Coal Firms to Profit More.” 33 Economy, The River Runs Black, pp. 72-76.

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34 The previous examples came up in discussions with U.S. government sources in November 2007. 35 Rosen and Houser, “China Energy,” pp. 11-13; Author discussions with various expert sources in Beijing May 2007. 36 Author discussions with U.S. government personnel, Washington, DC, October-November 2007 37 Yang and Zhao, “Forums Show the Way”; Lewis, “China’s Strategic Priorities,” p. 164. 38 Lardy, China. Lardy argues, “Despite much lip service to increasing the provision of social services financed through the budget, there is little evidence that a fundamental shift in government spending priorities is under way (p. 12).” See also “China's Economic Puzzle.” 39 See Jain, “Japan to Shift Aid Focus.” 40 Wang, “Energy Efficiency,” pp. 1-2. See also Deutch et al.,“China’s Energy Challenge,” p. 54; and “China's Economic Puzzle.” 41 Lewis, “China’s Strategic Priorities,” pp. 158-161. 42 Economy, The River Runs Black, pp. 55-56, 108. 43 Wang, “Changes to Energy Conservation Law.” 44 "Wen Jiabao Convenes First Meeting.” 45 “China to Seek Public Opinions.” 46 “China Offers Rewards.” 47 Oon, “China Must Do More.” 48 Fu, “Accuracy under the Spotlight”; Oon, “China Must Do More.” 49 “China Mulls Green Tax.” 50 Economy, The River Runs Black, pp. 90-101, 178-185. 51 Ibid., pp. 104-107. 52 Pan, “Working toward a Better Environment.” 53 Cunningham, Testimony before the U.S.-China Economic and Security Review Commission, p. 6. 54 “China and US Sign Energy Accord.” The MOU serves as a conduit for American companies to export environment-friendly, U.S.-made equipment and services to China. The MOU signing is an example of the kind of partnerships available to increase energy efficiency and remove barriers to private investment in clean-energy technologies in China 55 Economy, The River Runs Black, pp. 258-263. 56 Medeiros and Taylor, “China's New Diplomacy.” In May 2007 this author met with experts in Beijing to discuss China’s energy policy and regional relationships. 57 Economy, The River Runs Black, pp. 178-216. 58 In this chapter the focus remains on carbon dioxide, which is the leading greenhouse gas. 59 Lauzon et al., 2007 Global Energy Survey, pp. 3-6; IEA, “Searching for Optimism”; IEA, World Energy Outlook 2006. 60 See Schwartz and Randall, “Abrupt Climate Change Scenario.” 61 Ma, “China Is Shouldering Its Climate Change Burden.” 62 IEA, World Energy Outlook 2007. 63 Globally transport is one of the major consumers of energy and producers of CO2 emissions (representing between 20 and 25 percent of the total), so getting a handle on this sector is also critical. The forestry sector in developing

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countries has a large abatement potential because deforestation causes 14 percent of emissions (by IPCC estimates it is up to 20 percent of emissions). Abatement comes from slowing deforestation and successful reforestation in the developing world. Further, the agriculture and waste sectors emit about 18 percent of global GHG emissions from sources such as fertilizers, livestock, landfills, wastewater, and rice. This is projected to grow to 37 percent by 2030 (driven by population growth in the developing world). See Vattenfall, Vattenfall’s Climate Map 2030, pp. 9-25. See also Revkin, “A Shift in the Debate over Global Warming,” p. 3. 64 Chandler and Gwen, Framing Energy Efficiency. 65 Moore, “China Powers Ahead.” Proposals to transform the U.S. economy from one dependent on petroleum and high-emission coal-fired electricity to one that uses energy more efficiently, develops alternative fuels, and moves toward lower-carbon electricity generation face an uphill battle as well. On the practical political side, the important question is whether citizens will modify their consumption patterns and habits. See Brookings Roundtable, “A Climate of Change”; Ogden et al., “A New Strategy to Spur Energy Innovation.” 66 World Energy Council (WEC), Deciding the Future, pp. 1-2. 67 Lewis, Testimony before the U.S.-China Economic and Security Review Commission, p. 1. 68 Ma, “China Is Shouldering Its Climate Change Burden.” 69 Revkin, “A Shift in the Debate over Global Warming,” p. 3. 70 “Wen Jiabao Convenes First Meeting.” 71 Lewis, Testimony before the U.S.-China Economic and Security Review Commission, p. 3. 72 Furman et al., “An Economic Strategy to Address Climate Change,” pp. 28-29. 73 See Office of the Press Secretary, “Fact Sheet.” 74 Neuhoff, “Major Economies Meeting.” Those participating in the Major Economies Meeting included Australia, Brazil, Canada, China, European Union, France, Germany, India, Indonesia, Italy, Japan, Mexico, Russia, South Africa, South Korea, United Kingdom, United Nations, and United States. 75 Specific to China, the Human Development Report 2007/2008 of the UNDP argues that China will suffer from severe water shortages, particularly in its northeast, where 40 percent of its agricultural land is located and 128 million people live. Desertification is spreading, major dust storms will become more common, and agricultural yields will suffer. See UNDP, Human Development Report, p. 155. 76 Ogden et al., “A New Strategy to Spur Energy Innovation,” pp. 7-8. 77 UNDP, Human Development Report, pp. 143-144. 78 Lauzon et al., 2007 Global Energy Survey, pp. 11-12. See, for example, Mortished, “Energy Crisis Cannot Be Solved by Renewables.” 79 Carbon Sequestration Leadership Forum (CSLF), “Near-Term Opportunities for Carbon Dioxide Capture and Storage,” pp. 1-20; WEC, “The Energy Industry Unveils Its Blueprint for Tackling Climate Change,” pp. 1-6. 80 Revkin, “A Shift in the Debate over Global Warming,” p. 3. 81 UNDP, Human Development Report, pp. 149-150. 82 Ibid., pp. 145-146. 83 Watson, “Financing the Transition to a Low Carbon Economy.”

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84 One problem is that adopting CCS can also decrease plant efficiency, which raises the cost per kilowatt-hour. A November 2008 MIT study argues that a system using partial capture could get CO2 emissions from coal-fired plants down to the emissions levels of natural gas plants. See Ehrlich, “Carbon Capture Lite Could Cut Costs for ‘Clean Coal’.” 85 Massachusetts Institute of Technology (MIT), The Future of Coal. 86 CSLF, “Near-Term Opportunities for Carbon Dioxide Capture and Storage,” pp. 1-20. See also MIT, The Future of Coal. 87 WEC, Transport Technologies and Policy Scenarios to 2050. 88 Furman et al., “An Economic Strategy to Address Climate Change,” pp. 5-7; WEC, 2007 Survey of Energy Resources, pp. 11-19. 89 Cap-and-trade proposals call for the government to cap total GHG emissions by issuing emissions allowances that companies could trade among themselves, which gives them the right to pollute. The largest reductions would come from firms that can do it at the lowest cost, while firms for which it would be too expensive would purchase allowances from those that exceeded their reduction goals. See, for example, Stavins, “A U.S. Cap-and-Trade System.” 90 Carbon tax swaps propose to reduce greenhouse gas emissions by taxing carbon at a low rate initially with gradual increases over time to give the economy time to adjust. See, for example, Metcalf, “A Proposal for a U.S. Carbon Tax Swap.” See also Furman et al., “An Economic Strategy to Address Climate Change,” pp. 7-8. 91 See Office of Policy and International Affairs, U.S. Department of Energy, “DOE-China Energy Cooperation.” 92 For more information on the U.S. Department of Energy’s Carbon Sequestration Leadership Forum and other programs focusing on energy, see http://www.fe.doe.gov/programs/sequestration/cslf/. For information on the Asia-Pacific Partnership, see http://www.state.gov/r/pa/scp/2006/60852.htm. 93 Thompson, “Asia-Pacific Partnership on Clean Development and Climate.” 94 Asia-Pacific Partnership on Clean Development and Climate (APP), “Communiqué from the Second Ministerial Meeting.” The APP Web site has various documents, communiqués, action plans, and reports available as well. 95 APP, “About the Asia-Pacific Partnership on Clean Development and Climate.” My observations and discussions with U.S. government sources reveal that Australia has been a central actor, providing around $150 million in Australian dollars for joint projects. The U.S. overall contribution has been $45 million, with $5-8 million set aside for projects in China. Japan has been a more cautious actor and slow to provide funding. China is receptive to the joint projects, while India fears that its participation risks current funding from the World Bank and Asian Development Bank. 96 Thompson, “Asia-Pacific Partnership on Clean Development and Climate.” 97 Gao Guangsheng, speech delivered at the 2nd ministerial meeting of the Asian-Pacific Partnership. 98 The author saw these issues raised in task-force meetings in 2007. The importance of these issues has been confirmed in the author’s conversations with knowledgeable government personnel from October to November 2007 in Washington, DC.

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99 Lewis, “China’s Strategic Priorities in International Climate Change Negotiations.” 100 See Steinfeld, “Climate Change—International Issues.” 101 For a thorough discussion of climate change, see Lewis, “China’s Strategic Priorities in International Climate Change Negotiations.” 102 Economy, The River Runs Black, pp. 186-192. 103 Shen, “International Cooperation to Promote Energy Efficiency.” 104 Wang, “Energy Efficiency and CO2 in China’s Industry,” pp. 1-2. 105 UNDP, Human Development Report, pp. 149-150. 106 Klare, “Global Warming.” 107 NDRC, “China’s National Climate Change Programme,” p. 3.

7 Implications of China’s Quest for Energy Security Increasing global energy demand, the reality of a fossil fuel future in the context of dwindling supplies, and climate security fears bring immediate attention to China’s need, and our own, to address the future of energy security. China’s push for energy security raises concerns that its mercantilist “go forth” policy potentially disrupts international oil markets and the current energy system. Many concerns rest on China’s development of equity positions in producing countries and its “removing” of energy sources from the market. Those who fear China’s proprietary behavior most see it within a broader rubric of China’s threat as a rising power and make dire assumptions about what this means for the globe. For others, China is a growing power, yes, but one very dependent on its economic partners to maintain continued economic growth. (China’s leading economic partners include Japan, the United States, and the European Union.) For those emphasizing economic interdependence, China’s behavior fits within a broader rubric of complex interdependence that limits its power projection. Within China this debate pits the forces of energy nationalism against pragmatic internationalist voices over what path the country should follow to secure its energy future. Complicating this picture, China’s energy security is closely tied to its current and future development path. As the foreign policy analysis perspective presented in this volume illustrates, however, a country has multiple interests simultaneously that often compete. While China is committed to a rapid and dirty development path in its current practices, increasing social and environmental costs have led to a debate over sustainable development and higher standards in environmental practices. China is at a crossroads regarding its identity and place in the world. How it responds to its domestic development (and energy needs) and international pressure to reform its energy practices, most recently in response to climate change pressures, will shape its future role in Asia and the globe. Fundamentally, the government’s challenge is to reconcile competing government and domestic voices, frame and form a coherent policy, and

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implement that policy effectively. Because China has no single energy strategy or policy voice, it faces a difficult task. The analysis in this book demonstrates that China follows multiple paths, in fits and starts, to meet its growing energy needs and to green its development path. There is an energy nationalist strain of thought, but it is only one voice in China’s complex policymaking process. Looking at China’s energy policy in the Asian context demonstrates a bifurcated policy with examples of competition for resources, developing collaboration in some resource areas, and well-developed collaboration in conservation practices, but implementation challenges across the board. Thus, there is no single “energy strategy” in China, but rather a number of interconnected, if disjointed, policy initiatives that get lumped together and called an energy strategy by the Chinese government and outsiders. This fact is reassuring on the level that China is not the leviathan some assume, but also disconcerting in the sense that its ability to manage its energy needs is in question. This makes evaluating China’s stated policy goals in Asia, and the reality of its policy, more essential. The question becomes, how do various conceptual paradigm(s) inform China’s energy policy approach? China’s Energy Policy “Paradigm”?

In a climate of fear, security analysts anticipate that a country should seek out strategic real estate to “lock up” energy resources for itself. To some analysts, this is already occurring and China is part of a broader pattern of global energy nationalism. In fact, there does seem to be a developing pattern of such behavior within a wide swath of states that use their NOCs to control energy output. Producing states, in particular, can and do engage in a whole different level of energy nationalism. With 90 percent of the globe’s oil and gas held by national energy companies and producer governments increasingly unwilling to deal with the IOCs, the global energy market is under pressure. The important point is that in a high-priced energy environment, producing states have had the opportunity to renegotiate deals and to determine future business terms. However, we should not assume that producing countries will always have this advantageous position. Many energy experts anticipate that the lack of investment in producing states and increasing need for new technology will eventually hurt their output capacity and that such countries will be unable to meet their supply commitments. At some point they will need outside investment and technology other companies can provide. The petroleum price drop across 2008 from a high over $147 a barrel to around $40 illustrates the continued volatility of the oil

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market and a potential weakening of producer states’ positions vis-à-vis other actors, at least in the short term. China’s part in the global energy nationalist pattern gets a lot of press, but relative to the behavior of producer states it plays only a small part in this trend. Because China’s domestic production of all forms of energy cannot meet growing demand, the country must seek alternative sources outside its borders and bolster its domestic production of multiple forms of energy. The debate comes over how to accomplish this goal. Certain aspects of China’s foreign policymaking are mercantilist in nature. However, mercantilism is both less prevalent in China’s energy policy than critics would have us believe and more widespread in other states. Even though China seeks equity oil, only a small portion of that oil makes it back to China; around 85 percent is sold on the open market. In fact, one can argue that China’s deals with states such as Sudan and Iran actually add supply to the global market, thus increasing global supply rather than limiting it. Further, although Chinese state-owned companies seek equity positions overseas, as we have seen in its investments in Russia and Kazakhstan, they still face the same difficulties and constraints vis-à-vis producing states and their companies. Because they have deeper pockets, they have invested where other countries cannot. China faces a double standard. Ironically, while China’s use of its national oil companies to promote its foreign policy goals causes concern, similar practices in Japan or India do not garner the same attention. Further, U.S. outrage over CNOOC’s bid to buy Unocal (a mercantilist reaction) sent a message opposite to that intended by the United States. It sent a strong message to Chinese hard-liners that China will be prevented from acquiring energy on the open market and thus needs to “go forth” and buy up global resources. This U.S. response also flies in the face of its subsidies to protect the growing biofuels market, which illustrates that the U.S. engages in selective mercantilist behavior of its own. In response to outside critics of China’s “go forth” strategy, Chinese government officials such as the NDRC’s Ma Kai change the point of reference. He argues that the international community should not see China’s development as an energy threat to the world. Relative to the West, not only is China’s per capita consumption small, but China also works hard to save energy. Although the second-largest consumer of crude oil, China is home to one-fifth of the global population and the fastest growing economy (at least prior to the 2008 global financial crisis), making its per capita oil imports a fraction of those of the U.S. and Japan.. China’s leaders argue that its contribution to global energy

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security should be measured by its high degree of self-reliance in energy (90 percent produced locally)—namely, its reliance on its own coal, oil, and natural gas reserves rather than its equity oil buys.1 Seen in this light, if China’s demand plays an onerous role in rising oil prices, so do continued U.S. wasteful consumption patterns. The steady U.S. growth in oil imports is greater than China’s growth by volume and has become a major factor producing destabilizing oil demand growth. The U.S. incremental increase in demand absorbed the equivalent of three-fourths of the entire increase in OPEC’s oil exports across 1995-2004. This energy use leaves a tight oil market, and little cheap energy is left for developing countries. Such U.S. energy use directly constrains the energy futures of other states. More broadly, Zheng Bijian, a long-term advisor to China’s top officials, argues that China has made the strategic choice to embrace economic globalization rather than to detach itself from it. In this sense, once China became a member of the WTO and continued reforms at home, it committed its path to a sophisticated neomercantilist view that globalization has altered the way nations compete for power.2 In its broader “go forth” policy, we have seen how China works to reassure its neighbors that its “rise” is peaceful. (In the energy context, China’s growth puts pressure on the sustainability of the international energy system, raises prospects for change to the status quo, and triggers some concern among its neighbors.) Recognizing the rising concern, China uses a broad foreign policy approach to prove itself to be a responsible stakeholder in the current international system and within Asia. As the discussion in previous chapters illustrates, among its neighbors and with other regions of the world, China has followed a successful energy-fortrade strategy that placates many of its neighbors in the short term. China develops “partnerships” in which it couches its trade relationships, provides direct foreign assistance, invests in infrastructure projects, and in some cases provides military aid. Although China’s practice to use its own labor and products often displaces recipient governments’ local businesses and jobs, overall these governments remain favorable to Chinese investments.3 Pressuring China does not work. Demands from the West for China to curb its energy demand have the opposite effect than they intend as they strengthen the hand of hard-line voices in government and in the public sphere. In effect these demands ask China to give up the promise of Deng Xiaoping’s export-led growth model. As Susan Shirk notes, although China is a rising superpower, it is remarkably fragile. Economically, China has been going great guns, but its growing energy demand in a resource-scarce environment and the growing challenge to

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green its development path place a great challenge at the leadership’s feet. Given the party’s commitment to bringing the people out of poverty and the need to keep people employed for stability, China is in a tough situation in a tight energy environment. High energy prices and concerns over source stability put them in a place both to seek equity oil and to see that it will not be enough. More and more China sees coordinated international action to promote cooperative energy security as vital to its future.4 Both cooperation and competition exist in the Asian energy game. When China’s supply-side energy policy is the focus, then the rise of competition over scarce resources triggers a more zero-sum analysis. For example, in the U.S. a major concern comes from China’s investments in countries unfriendly to the United States, such as Iran and Sudan. These activities trigger a zero-sum threat scenario.5 When complex interdependence is the starting point, a shared interest to cooperate and opportunities to collaborate to solve shared problems are the major operating assumptions. In this sense, China can be convinced to play by the rules. In fact, China puts great effort into developing such a win-win economic and political relationship with neighbors with its peaceful rise rhetoric and investment deals. China’s neighbors acknowledge that developing a cooperative, careful relationship with China is the only pragmatic option. Even with Japan, feelings are warming. Still the lingering Sino-Japanese rivalry demonstrates a state of affairs that must be watched closely. Through the competition over pipeline routing, the two sides share a sense of impatience over Russia’s indecisiveness, but still compete for access to the resource. If the relationship is kept within a stable framework of mutual interests, however, prospects are better for cooperation in the energy sector, at least on the demand side. After all, the business partnership is based on Japan selling China the technology it needs. With the warming of tensions have come deeper contacts from the working level to the prime minister that solidify functional relations and expedite handling of most disagreements that arise. The Sino-Japanese relationship today is more regularized and arguably more stable. With Russia, China is likely to have a complex relationship. Lingering insecurities on the part of Russia will keep it from developing the “strategic partnership” that Washington fears. For China, Russia’s pipeline games show that it is not a reliable partner. In Central Asia, Russia maintains its monopoly, but Central Asian states see the advantage to deal with China, as a balancer of Russia’s influence. In Southeast Asia, ASEAN states work closely with China. Simultaneously, as a group they work together to garner a better

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negotiating position with both China and Japan. In each case states maneuver to gain a better position relative to others. By using multilateral mechanisms, however, a greater sense of security can be gained through confidence-building measures and shared responses to common problems. When we focus on the demand-side of energy security, we see a series of healthy, ongoing collaborations to come up with joint solutions to shared problems. Here a sense of “low policy” and shared interest leads to a collective response and a collaborative definition of energy security. The series of negotiations over energy policies that occur bilaterally and multilaterally demonstrate that energy is an area where Chinese, regional, and American interests and shared vulnerabilities coincide. Hu Jintao argues that “[w]e should step up worldwide energy dialogue and cooperation, jointly maintain energy security and energy market stability, and ensure a well-supplied, secure, cost-effective and clean energy environment conducive to global economic growth.”6 The traditional realist hierarchy of issues emphasizing military security has little place in the energy-security dialogue presented in this volume. When both the supply-side and demand-side equations are studied, it becomes clear that it is time to look beyond the narrow realist notion that “security” is a commodity. Instead, it is a relational concept in which perceptions of reality shape behavior and outcomes are less fixed.7 Energy security includes the technology and delivery systems essential to get the needed energy to its destination – a conclusion that triggers a complex interdependence analysis of the energy security equation. Not surprisingly, progress with China will be mixed and come only with hard work. In a situation of complex energy interdependence, there will be mixed outcomes and frustrations to overcome abroad and at home. China’s Policy Choices and Foreign Policy Process

Because there are a plethora of potential administrative partners and various bureaucracies on the China side that deal with energy-security issues, energy dialogues are complex and represent multiple issues and interests. No single energy-security policy dominates because each bureaucracy has a different set of interests to pursue. As scholars such as Graham Allison argue, because each bureaucracy has vested interests and different statutory responsibilities, this creates an invitation to struggle over control of the policy agenda and distinct pieces of a policy puzzle. These differences can and do lead to turf battles among

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bureaucracies that share authority over a broad policy.8 In this context, bureaucratic parochialism, as much as any strategic calculation, can shape China’s energy policy position. At the heart of the energy policy analysis presented in this volume are the multiple constraints Chinese leaders face within the central government and domestically. As we have seen, China’s decisionmaking structure represents a kind of “fragmented authoritarianism,” and it is too early to see if the restatement of energy priorities by top leaders or the latest government reorganization will lead to a significant change. Past experience does not bode well for this outcome. To date, China’s efforts in energy have been led by an understaffed NDRC that shares responsibility with the MFA, MOFCOM, and other bureaucracies but lacks statutory authority to determine policy. Complicating Chinese policy-making, within society the authority of the central government is challenged by SOEs that operate with a lot of independence and by local leaders who control economic development policy. SOEs have been primarily responsible for blocking the creation of the new ministry of energy as well as blocking NDRC consolidation attempts. The big industry players can and do lead policy where government does not want it to go. The complicated relationship between the government and SOEs and the central government’s inability to constrain local officials make a coordinated, centralized energy policy impossible. More broadly, leaders must keep symbolic politics from ruling the day in energy security. For example, Chinese citizens have demonstrated their visceral reaction in recent years to any perceived slight. Whether it is protecting its “rights” in the East China Sea, protesting the Japanese prime minister’s visit to the Yakasuni Shrine, or reacting to outside efforts to place carbon limits that will shape China’s future development path, China’s public has become a volatile actor in its country’s foreign policy. China’s leaders face multiple protests over issues ranging from energy price hikes to environmental degradation. The government most fears that a massive protest movement in China could undermine the position of the CCP. In summer 2008 protests regarding the running of the Olympic torch in London, Paris, and San Francisco triggered massive protest on Chinese blogs and calls for Chinese consumers to boycott Western companies. The government worked to stymie some of these protests. The greatest challenge seems to come if a crisis (and resulting protests) triggers a more hard-line policy response than the government might want. We can see that China is not the authoritarian state our mothers knew. More and more Chinese policymaking reflects a government constrained by its own decentralization and domestic politics. A look at

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its energy-use debates shows the tough choices the country must make to secure its future. Trade-offs between Growth and Environmental Security

China’s future energy security is integrally tied to its broader development path. Growth-at-any-cost jeopardizes China’s sustainable development future and risks political stability. The party walks a knifeedge to balance the competing interests and needs associated with rapid growth and environmental degradation. Whether China is rich enough to absorb the costs associated with greater environmental legislation that potentially slows economic growth is still an open question. In promoting energy efficiency and a low-carbon energy future, a fundamental issue relates to questions of technology transfer and “who pays.” Some of the technology exists, but existing mechanisms have been slow to deploy projects to share the newest technology. Issues such as intellectual property rights and technology transfer have the ability to upset future bilateral and multilateral energy collaboration. However, as the discussion in chapter 6 illustrates, clean-energy technology requires more research and development funds, broad deployment in China and beyond, and industry participation (that is, the holders of the needed technology) for greater energy security. In this framework, the most efficient way to promote energy security is to help China and others in the developing world to transform their economies in order to create an “environment for the development, diffusion, deployment and transfer of existing and emerging cost-effective, cleaner technologies and practices, through concrete and substantial cooperation so as to achieve practical results.” 9 The problem U.S. government officials foresee is that China expects technology at a reduced rate or at cost. This is hard to sell in an environment in which China holds such large foreign currency reserves. (It also may be hard to sell in the context of the economic fallout from the 2008 global financial crisis.) In this way, issues of “low policy” can produce a greater threat to future energy cooperation, and undermine collaborative responses to the growing energy crisis, than traditional geopolitics. Multilateral models such as the Bush-initiated APP demonstrate both the positive and negative sides of such technological deployment efforts. The APP is a partnership model that focuses “on practical solutions” and accomplishments, but it needs a broader mandate.10 To date, it has not been funded at a high enough level to allow measure of its overall effectiveness. But this model does seem to have the interest of some in the Obama administration and may continue beyond the

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changeover in power. At its heart, however, this or any program needs to be funded at a much higher level if it is to have a broad impact. Reactions to China’s Rise: A Continuation of Hedging Strategies

Within the Asia-Pacific region, China is seen both as a necessary partner and potential competitor. As in the United States, across Asia there are hard-liners who see the China threat first while others emphasize shared economic dependence and the need to make China part of the international system. In an environment of mixed assessments of the implications of China’s rise, the U.S. and others follow a careful hedging strategy. Former deputy secretary of state Robert Zoellick’s framing of the U.S.-China relationship in his speech before the National Committee on U.S.-China Relations in September 2005 is likely to remain the central mantra for the bilateral agenda in the Obama administration. Noting China’s embrace of globalization and market reform, Zoellick argued that neither the Cold War analogy nor the model of balance-of-power politics of nineteenth-century Europe applied to China. Calling on China to become a “responsible stakeholder” in the international system, he said that “[t]he United States welcomes a confident, peaceful, and prosperous China, one that appreciates that its growth and development depends on constructive connections with the rest of the world. Indeed, we hope to intensify work with a China that not only adjusts to the international rules developed over the last century, but also joins us and others to address the challenges of the new century.” 11 While Zoellick’s speech mentioned the hope that China would become a responsible stakeholder, it also acknowledged the caveat that it was not yet the global stakeholder Zoellick envisioned. The speech struck a balance between the traditional pragmatic engagement position of the State Department and the security threat perspective represented by the Defense Department, but it left the inherent contradictions this created unaddressed.12 In August 2006 Thomas J. Christensen, deputy assistant secretary of state for East Asian and Pacific affairs, acknowledged this dual purpose, saying that the U.S. needed to pursue “active engagement to maximize areas of common interest and cooperation, along with a recognition that we need to maintain strong U.S. regional capabilities in case China does not eventually move down a path consistent with our interests.” 13 According to the rhetoric and the engagement approach of the last three administrations, the best way to influence China’s future reform and policies is by making it part of the international community. 14

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Bilateral dialogues such as the Strategic Economic Dialogue (SED) are seen as the means to influence China’s behavior. In one SED meeting, George Bush’s secretary of the treasury Henry Paulson hoped that the discussion would “focus on China’s successful integration into the global economy and ensuring that both nations benefit from our growing trade relationship.” Chinese president Hu Jintao lauded the SED as a dialogue “that not only helps improve Sino-U.S. economic and trade cooperation, but also has the positive impact on development of the regional and world economy.” 15 A similar approach is taken in the SinoAmerican bilateral energy dialogue initiated in December 2005 to increase mutual understanding of each country’s priorities, programs, and policies. For example, in U.S-China discussions there is a shared commitment to sustaining the world’s economic growth while keeping access to reliable, affordable energy in an environmentally sustainable way. The U.S. push for China to establish a strategic petroleum reserve is done precisely to promote coordinated responses to a potential global energy crisis.16 Thus a general collaborative approach exists, but the U.S. remains careful in its approach to China. It would be a mistake, however, to see U.S. hedging as a coherent strategy. The mixed messages coming from the government mask the real differences in approach across bureaucracies and the corresponding reality that a plethora of executive agencies have a piece of the China policy pie. For example, energy is a topic of discussion in multiple bureaucracies such as the Departments of State, Energy, Treasury, Defense, and Commerce; the Environmental Protection Agency; the White House; and various congressional committees. Each has the lead in a number of energy-related policies from negotiations to specific programs. The executive-branch complexity is reflected in who leads various bilateral and multilateral energy-related dialogues. Examples include the Treasury-led SED, the Energy Department-led Five-Party Talks and other more long-term energy discussions, the jointly led but State Department-coordinated APP, and the State Department-led NDRC dialogue, to name just a few.17 A Final Thought

China’s economic superpower status has made the bilateral relationship with China the most important relationship the U.S. has with any country. Many of its neighbors see China in the same light. China’s economic strength makes it a strange but necessary bedfellow as the U.S. and others seek a platform to pursue progress in areas of common interest while carefully managing areas of difference. The inconvenient

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truth is that the power equation among China, Asia, and the U.S. has fundamentally altered. President Obama’s pragmatic need to address the economy brings home the hard lesson that the U.S. is not in the driver’s seat with its banker. With the global financial system in turmoil, China holds $1.9 trillion in foreign reserves and a slowing but still strong economy. It also has $0.5 trillion in U.S. government bonds, and the U.S. needs Beijing to continue to buy the bonds to finance the financial bailout and growing national debt. The economic crisis in the U.S. should, at least temporarily, sideline the old points of contention like human rights and trade. The U.S. can ill-afford the pattern of volatility in the Sino-American relationship that has characterized the initial days of recent presidencies.18 In the area of future energy security, China and the U.S. as the leading energy consumers and importers of oil as well as the leading GHG emitters, have many shared interests. As energy becomes scarcer, the two countries will have to carefully manage the relationship and avoid crisis-driven policy responses. In the near term it is essential that each does what it can individually and collectively to decrease its energy footprint. Creating conditions that reassure China’s pragmatic policy voices, rather than the fear mongers, is part of the lesson. A confident rather than an insecure China is essential. Also desirable is a pragmatic United States that acknowledges that engaging China, despite inherent differences, is the only practical policy choice.

1 Ma, “China Is Shouldering Its Climate Change Burden”; See also Zhao, “China’s Energy Procurement Strategy.” 2 See Zheng, “China’s Peaceful Rise to Great Power Status.” 3 China follows a model to attach strings to its own foreign assistance programs, a model that should be familiar to U.S. policymakers. 4 Shirk, China, pp. 140-180. 5 Oddly enough, when U.S. allies such as Japan invest in Sudan, the matter might receive protest but is largely ignored. 6 Hu, “Build towards a Harmonious World.” 7 See, for example, McSweeney, Security, Identity, and Interests. 8 For the classic discussion of bureaucratic politics in the American context, see Allison, Essence of Decision. 9 APP, “About the Asia-Pacific Partnership on Clean Development and Climate.” 10 APP, “Communiqué from the Second Ministerial Meeting.” The APP website has various documents, communiqués, action plans, and reports available as well.

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11 Zoellick, “Whither China.” See also Rice, “Bridging the Gap,” pp. 1213; and Zoellick, “Statement on Conclusion of the Second U.S.-China Senior Dialogue.” 12 See chapter 7 in Garrison, Making China Policy, for a discussion of the evolution of China policy in George W. Bush’s first term. 13 Christensen, “China’s Role in the World.” 14 Bloch, “Commercial Diplomacy.” 15 Mu, “Hu”; Paulson, “Opening Statement before the U.S.-China Strategic Economic Dialogue.” 16 Harbert, “U.S.-China Energy Policy Dialogue.” Author discussions with various U.S. government sources in Fall 2007 confirmed this argument. 17 Garrison, “Managing the U.S.-China Foreign Economic Dialogue.” 18 For a discussion of domestic factors in U.S.-China relations, see Ross, ed., After the Cold War; Sutter, U.S. Policy toward China. In other areas, influential groups representing interests ranging from human rights and religious freedom to organized labor have flourished since the 1989 Tiananmen Square protests and place pressure on presidents to elevate their particular problems to a prominent place in the bilateral dialogue.

Acronyms and Abbreviations APEC APP ARF ASEAN BBC bpd CAFTA CCP CCS CDM CHNG CIS cm cm/y CNG CNODC CNOOC CNPC CtL DOD EIA ESCOs FDI FTA GDP GE GHGs ICG IEA IGCC IOCs IPCC JAESCO

Asia-Pacific Economic Cooperation Asia-Pacific Partnership on Clean Development and Climate ASEAN Regional Forum Association of Southeast Asian Nations British Broadcasting Corporation barrels per day China-ASEAN Free Trade Area Chinese Communist Party carbon capture and storage Clean Development Mechanism China Huaneng Group (China) Commonwealth of Independent States (includes former Soviet countries with the exception of Baltic states) cubic meters cubic meters per year compressed natural gas China National Oil and Gas Exploration and Development (China) China National Offshore Oil Corporation (China) China National Petroleum Corporation (China) coal-to-liquids Department of Defense (U.S.) Energy Information Administration (U.S.) Energy Service Companies foreign direct investment free trade agreement gross domestic product General Electric greenhouse gases International Crisis Group International Energy Agency integrated gas combined cycle international oil companies Intergovernmental Panel on Climate Change Japan Association of Energy Service Companies (Japan)

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km KMG LBNL LNG LSGs MEP METI MFA MNCs MOE MOFCOM MOFTEC MOU NDRC NEA NEC NELG NNES NOCs NPC ODA ODI OECD OPEC Petrokaz Petronas PLA PPP PSAs PSCs PSI QDR RMSI SASAC SCO SEC

kilometer KazMunaiGaz (Kazakhstan) Lawrence Berkeley National Lab (U.S.) liquid natural gas leading small groups Ministry of Environmental Protection (China) Ministry of Economy, Trade, and Industry (Japan) Ministry of Foreign Affairs (China) multinational corporations Ministry of Energy (China) Ministry of Commerce (China) Ministry of Foreign Trade and Economic Cooperation (China) memorandum of understanding National Development and Reform Commission (China) National Energy Administration (China) National Energy Commission (China) National Energy Leading Group (China) New National Energy Strategy (Japan) national oil companies National People’s Congress (China) overseas development aid overseas direct investment Organisation for Economic Co-operation and Development Organization of Petroleum Exporting Countries PetroKazakhstan Petroleam Nasional Berhad (Malaysia) People’s Liberation Army (China) purchasing power parity production sharing agreements production sharing contracts Proliferation Security Initiative (U.S.) Quadrennial Defense Review Report (U.S.) Regional Maritime Security Initiative (U.S.) State-Owned Assets Supervision and Administration Commission (China) Shanghai Cooperation Organization (Russia, China, Kazakhstan, Kyrgyzstan, Tajikistan, and Uzbekistan) State Energy Commission (China)

Acronyms and Abbreviations 155

SED SEPA SETC Sinopec SLOCs SOEs SPR TAC UN UNCED UNCTAD UNDP Unocal WEC WTO

Strategic Economic Dialogue State Environmental Protection Agency (China) State Economic and Trade Commission (China) China Petroleum Corporation sea-lanes of communication state-owned enterprises strategic petroleum reserve Treaty of Amity and Cooperation (ASEAN, China) United Nations UN Conference on the Environment and Development UN Conference on Trade and Development UN Development Program Union Oil Company of California World Energy Congress World Trade Organization

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Index Central Asia: center pipeline system, 49; energy nationalism, 48-52; energy resources, 42-45; going forth in, 45-52; Karachaganak, 44; Kashagan field, 42, 45; Kazakh-China Pipeline, 45-47, 59; KazMunaiGaz, 45, 47, 48; PetroKazakhstan, 47-48, 51; relations with China, 41-60; relations with Russia, 42-45, 49-52; trade with China, 52-53 Chevron-Texaco, 42, 47, 94 Chicago Council of Global Affairs Poll, 12 China: climate security challenge, 122-126; Communist Party, 22, 30, 147; eleventh five-year plan, 57, 94, 112, 117, 127; energy conservation, 12, 76-79, 81; energy efficiency, 123, 126, 131-135; energy insecurity, 1, 21-22; energy intensity, 113-114; energy nationalism, 77, 142; energy policy, 22, 26-30, 35, 76-77, 81, 104; environmental challenges, 112-118; Environmental and Resources Protection Committee, 29; foreign direct investments, 10, 11 (Table 1.1.), 21, 32-33, 98; fragmented authoritarianism, 24, 147; go forth in Africa and Middle East, 15, 32-35; go forth in Central Asia, 45-60; go forth in Northeast Asia, 68-84; go forth in Southeast Asia, 93106; growing challenges to development, 22-25; increasing energy demand, 1-3, 22, 50, 67, 143; interdependence with Japan, 77-82; leading small groups, 25, 37 (n20); mercantilism, 32-35;

Allison, Graham, 146 Amari, Akira, 79 Asia-Pacific Economic Cooperation (APEC), 101-103 Asia-Pacific Partnership on Clean Development and Climate (APP), 131-133, 139 (n95), 148 Asian Development Bank, 119, 133 Asian energy game, 75, 145 Asian market, 10 Association of Southeast Asian Nations (ASEAN): complex interdependence, 97-101; energy resources, 88-91; regional disputes, 96-98; regionalism,102-03, 105; relations with China, 87; relations with Japan, 87; vulnerable transportation routes, 91-33 Australia, 32; 94, 105 Bo Shen, 133 Bohai Bay, 57 British Broadcasting Corporation Polls, 13 British Petroleum (BP), 47, 57, 7374, 89, 95, 107 Bureaucratic politics, 14-25, 28-30, 118-122, 134-135, 146-148 Burma. See Myanmar Bush, George W., 128 Cap-and-trade, 139 (n89) Carbon capture and sequestration (CCS), 129-133 Carbon Sequestration Leadership Forum, 130 Carbon tax, 139 (n90) Caspian Sea reserves, 41-42, 43 (Table 3.1), 49, 50 Cebu Declaration on East Asian Energy Security, 102

181

182

Index

military, 8, 10, 12, 13, 55, 65, 144; National Climate Change Program, 127; National People’s Congress (NPC), 29; policy implementation challenges, 81, 118-122; policymaking apparatus, 25-30, 31 (Figure 2.1); poverty, 23; power generation equation, 114-118; rapid growth, 21, 22, 41, 113, 120, 148; relations with Africa, 6, 12-13, 17 (n16), 18 (n45), 32-33, 91; relations with ASEAN, 97-101; relations with Central Asia, 41-60; relations with India, 100-101; relations with Iran, 6, 7, 30, 55, 60 (n4), 95, 101, 143, 145; relations with Japan, 65-66, 68; relations with Middle East, 3233; relations with Russia, 41, 51-52, 54-56, 59-60, 62 (n46), 69-75; relations with Southeast Asia, 96-105; reliance on coal, 57, 67-68, 114-120, 129-135; Renewable Energy Law, 111112, 126, 128, 131, 133; responsible power, 21, 24-25, 149; rivalry with Japan, 68-77; scientific development concept, 24, 120; trade with Central Asia, 52-53; trade with Japan, 77-80; West-East pipeline, 5657, 108 (n72); Xinjiang Province, 45, 57 China-Arab Cooperation Forum, 33 China-Japan Forum on Energy Conservation and Environmental Protection, 7879 China National Offshore Oil Company (CNOOC), 27, 34, 48, 57, 68, 89, 94, 103, 143 China National Petroleum Corporation (CNPC), 27, 28, 45, 48, 50-51, 56, 69, 73-76, 95 China Petrochemical Corporation (Sinopec), 27, 8, 48, 51, 57-58, 73-74, 93-94

China threat perspective, 12-13, 16-17 (n24), 149 Christensen, Thomas J., 149 Clean Development Mechanism (CDM), 128, 133 CNOOC. See China National Offshore Oil Company CNPC. See China National Petroleum Corporation Coal-to-liquids (CtL), 117-118 Complex interdependence perspective: in general, 8-10, 13, 21, 35-36, 52-59; in Northeast Asia, 79-81; in Southeast Asia, 97-105, 141151 Dabei fields, 57 Daqing, 22, 60, 69, 70, 76 Deffeyes Kenneth, 2 Deng Xiaoping, 21, 25-26, 35, 111, 115, 144, 147 Department of Defense, U.S. (DOD), 7-8, 17 (n24) Department of Energy, U.S. (DOE), 8, 79, 119, 130-131 Department of State, U.S., 8, 131,149-150 Deutch, John, 128 Dushanbe Declaration, 55 East Asia Summit, 102 East China Sea dispute, 65, 68-69, 76-78 Economy, Elisabeth, 24, 37 (n24), 133 Energy Conservation Law 2007, 120-122 Energy Information Administration, U.S. (EIA), 3, 42, 43 (Table 3.1) Energy nationalism, 6, 48-52, 6975, 77, 142 Energy security (definitions), 1-19, 134-135, 141-151 Energy Service Companies (ESCOs), 80 Europe, 1, 72, 74, 75, 84 (n27), 95 Evans, Peter, 77 ExxonMobil, 49, 58, 88, 97

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Foreign direct investment, 10, 11 (Table 1.1), 100 Foreign policy analysis perspective, 2, 13-14, 35, 60, 146-150 Fukada, Yasuda, 76 FutureGen, 131-132 Gao Guansheng, 132 Garrett, Banning, 10 Gazprom, 44, 49, 51-52, 74 General Electric (GE), 117 Geopolitical challenges, 2-3, 6-8, 13, 16, 35-36, 41-42, 58-59, 80-81, 145-146 Global energy context, 2-5 Go Forth policy: in Africa and Middle East, 32-35; in Central Asia, 45-60; in Northeast Asia, 68-84; in Southeast Asia, 93-96 Goldstein, Avery, 10 Gorst, Isabel, 48 Great game in Central Asia, 41-60 Greenhouse gases (GHG), 23, 103, 117-118, 122-123, 127, 129131, 138 (n63), 139 (n89), 151 Harmonious world/society, 9, 35 He Sheng, 97 Herberg, Mikkal, 83 Howell, David, 2 Hu Jintao, 9, 24, 54-56, 65, 69, 72, 91, 146, 150 Human Development Report 2007/08, 128 India, 100-101 Indonesia, 88-91 Intergovernmental Panel on Climate Change (IPCC), 123, 138 (n63) Intermestic, 135 Integrated gas combined cycle (IGCC), 116, 127, 129 International Energy Agency, ix, 3, 114, 122 International oil companies (IOCs), 34, 42, 47-52, 58, 73-76, 9496, 142 International system, 8-9

Itoh, Soichi, 82 Japan: East China Sea dispute with China, 68-69; Imperial 1, 10; interdependence in East Asia, 77-82; New National Energy Strategy (NNES), 77; perception of China 12; pipeline picture, 69-77; relations with ASEAN, 97-101; relations with China, 65-66, 68; relations with Russia, 70-72; relations with Southeast Asia, 89-102; rivalry with China, 6876 Japan Association of Energy Service Companies, 80 Karachaganak, 44 Kashagan field, 42, 45 Kazakh-China Pipeline, 45-47, 59 Kazakhstan: energy resources, 4245, relations with China and Russia, 45-49; 51, 62 (n46) KazMunaiGaz, 45, 47, 48 Keidel, Albert, 23 Keohane, Robert, 10 Khodorkovskii, Mikkhail, 69-70 Kurlantzick, Joshua, 10 Kyoto Protocol, 127-128 Lampton, David, 14, 25 Lardy, Nicholas, 114 Larrabee Stephen, 56 Lawrence Berkeley National Lab, U.S. (LBNL), 80, 119 Levine, Mark D., 112 Lewis, Joanna, 127 Li Peng, 45 Lieberthal, Kenneth, 25, 83 Liquefied natural gas (LNG), 3, 58, 67, 72-74, 89-90, 94-96, 103104, 107 (n21) Low policy, 146, 148 Ma Kai, 127, 143 Major Economies Meeting on Energy Security and Climate Change, 128 Malacca Strait, 6-7, 15, 91, 93

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Malaysia, 88-91 Medvedev, Dmitry, 56 Mercantilism, 32-39 Middle East, 7, 17 (n16, n18), 3233, 67, 91 Ministry of Commerce (MOFCOM), 26, 147 Ministry of Economy, Trade and Industry, Japan (METI), 78, 80 Ministry of Energy (MOE), 26, 27, 147 Ministry of Environmental Protection (MEP), 26, 121 Ministry of Foreign Affairs (MFA), 26, 28, 34, 37 (n24), 147 Ministry of Nuclear Industry, 26 Ministry of Public Safety, 126 Ministry of Water Resources, 27 Montreal Protocol ,128 Myanmar (Burma), 93, 95 Nakhle, Cheryl, 2 Nakhodka, 70, 72 National Climate Change Program, 127 National Development and Reform Commission (NDRC), 26-30, 37 (n24), 38 (n27), 79-80 112, 114, 116, 118, 127, 133, 147, 150 National Energy Administration (NEA), 29-30 National Energy Commission (NEC), 29, 120 National Energy Leading Group (NELG), 28-29, 120 National oil companies (NOCs), 33, 47-52, 58, 73-76, 94-96, 142 Natural gas resources, 44-52, 67, 89-90 Natural Resources Defense Council, 133 Nazarbayev, Nursultan, 54 Nikai, Toshihiro, 78 Noreng, Oysten, 7 Norling, Nicklas, 56

Northeast Asia: economic and political context ,76-80, energy reality, 66-68; go forth in, 6876; Nye, Joseph, 10 Ogden, Peter, 128 Olcott, Martha Brill, 60 Organization for Economic Cooperation and Development (OECD), 101, 116, 119, 128 Organization of Petroleum Exporting Countries (OPEC), 7, 88, 144 Pan Yue, 121 Peabody Energy, 117 Peaceful rise/development, 8, 87 Peak oil, 2 Pei, Minxin, 34 Pertamina, 88, 93 PetroKazakhstan, 47-48, 51 Petronas, 51, 73, 89, 95 Pew Global Attitudes Project, 12, 13, 18 (n46) Pipeline politics, 50, 65-84, 69-75 Podesta, John, 128 Politburo, 123, 138 (n63) Post-Kyoto process, 123, 134 Power transition theory, 18 (n30) Prasidh, Cham, 98 Psychological environment, 12-14 Putin, Vladimir, 55, 56, 70, 72 Quadrennial Defense Review, 7-8 Rapprochement, 19 (n51) Realism, 2-3, 6-8, 13 Renewable energy, 1, 16, 33, 104, 111-112, 126, 128, 131, 133 Resource wars, 2, 6 Responsible stakeholder, 134, 144, 149 Rosneft, 72-74 Russia: perception of China 12; relations with Central Asia, 4245, 49-52; relations with China, 41, 51-52, 54-56, 59-60 (n46), 69-75; relations with Japan, 7072

Index 185

Sakhalin projects, 72-74 Sasol, Ltd, 117-118 Scientific concept of development, 120 Seal-lanes of communication (SLOCs), 6-7, 91 Shanghai Cooperation Organization (SCO), 54-56 Shanxi Province, 119 Shell (Royal Dutch), 2, 39 (n52), 49, 74, 94, 117 Shenhua, 118 Shirk, Susan, 22, 104, 144 Siberia, 47, 60, 65, 67, 68, 69,70, 72, 75, 77 Singh, Mnmohan, 100 Sinopec. See China Petrochemical Corporation Six-party talks, 84 (n13) Soft power, 10, 88 South China Sea, 6-7, 57-58, 96-98 South Korea, 66-70, 78, 89-90, 96, 99 Southeast Asia: ASEAN structure, 101-103; China going forth in,93-96; economic interdependence, 97-105; energy resources, 88-93; regional disputes, 96-97, vulnerable transportation routes, 91-93 Spratly and Paracel Islands, 97 Sprout, Harold and Margaret, 14 State Council, 25, 27-28, 118 State Department. See Department of State, U.S. State Environmental Protection Agency (SEPA), 123, 138 (n63) State-Owned Enterprises (SOEs), 25-27, 28-30, 32-36, 47-48, 7376, 147 Strategic minerals, 7-8 Strategic petroleum reserve (SPR), 101 Sudan, 7, 32-33, 39 (n41), 95, 101, 145 Sutter, Robert, 9

Taiwan, 65, 75, 87, 37 (n22) Technology Development and Transfer Board, 132-133 Tengiz, 42, 44 Three Gorges Dam, 112, 116 Transportation chokepoints, 6-7, 15, 56, 91, 93, 103, 106 (n68) Turkmenistan: energy resources, 43-45; relations with China and Russia, 50-51, 60-61 (n8) Two-level game, 37 (n8) UNCTAD, 32 Union Oil of California (Unocal), 8, 34, 143 United States-China relations 1, 610, 149-150 Uzbekistan: energy resources, 4345; relations with China and Russia, 50-51 Van der Veer, Jeroen, 2, 8 Wang Jinnan, 23 Wang Weicheng, 29 Wang Yanjia, 119 Wang Yi, 78 Wen Jiabao, 24, 28, 56, 90, 98, 100, 127 Wenling Zhang, 98 World Bank, 80, 119, 133 World Energy Congress, 126, 128 World Trade Organization, 34, 144 Xinjiang Province, 45, 57, 108 (n72) Xu Jian, 2 Yakasuni Shrine, 76, 147 Yukos, 70, 73 Zhao Dadi, 101, 112 Zhao Xiaohui, 29 Zheng, Bijian, 144 Zero-sum, 2-3, 6-8, 13 Zoellick, Robert, 149 Zu Dingming, 120

About the Book Why does China act as it does in its pursuit of energy security? Are “resource wars” inevitable? Going beyond traditional analyses that focus on China as a regional and global threat, Jean Garrison sheds new light on the roots of the country’s energy policy and the constraints that it faces. Garrison eschews the zero-sum approaches that underlie much conceptualization of the subject, arguing that they are in large part based on the erroneous notion that China is a unitary actor with a coherent energy strategy. Her attention to the competing developmental and environmental priorities at play in China’s domestic politics is a critical contribution to the global energy-security debate. Jean A. Garrison is associate professor of political science at the University of Wyoming. Her previous work on China includes Making China Policy: From Nixon to G.W. Bush.

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