As the Nord Stream 2 project in Europe loses steam, Russian gas giant Gazprom has registered a company in Mongolia called Gazoprovod Soyuz Vostok (which in English means Gas Pipeline Union East). The company will do the local fieldwork for a proposed gas pipeline across Mongolia – the Power of Siberia 2.
The proposed pipeline aims to connect Siberian gas fields to consumers in northern China. For Russia, it could export 1.3 times as much gas as the existing Power of Siberia line and offset the potential loss of export volumes as Europe moves to renewable energy. For Mongolia, the pipeline has been advertised as a windfall of transit fees and an opportunity to use gas to reduce coal use and air pollution in Ulaanbaatar.
If Gazprom’s fieldwork reports positive results on schedule, it would also be a win for former Prime Minister Khurelsukh (who has personally pushed the pipeline) in the lead-up to June’s presidential election.
No wonder the project is being closely watched. On January 19, just three days before Gazprom’s announcement, Russian President Vladimir Putin directly asked Gazprom chief Alexey Miller about its progress.
But questions remain on whether the Power of Siberia 2 is really feasible and if so, whether Mongolia will benefit from it.
Headache over Xinjiang makes Mongolia a more viable route
Initially Gazprom was reportedly resistant to the trans-Mongolia route due to past issues with transit fee negotiations in other countries. It favoured a western option to the Chinese province of Xinjiang, which had the advantage of cutting out Mongolia.
However, the western route met local resistance in Russia’s Altai Republic and would have entered China thousands of kilometres from most consumers. So in early 2019, Putin summoned Miller to the Kremlin and told him to explore the trans-Mongolia option.
Now there seems to be little doubt that the project is possible.
In the January 19 meeting, Miller told President Putin that Gazprom’s preliminary analysis “definitely shows that the project is feasible.”
Independent analysis corroborates this. According to the ICIS, a commodity intelligence service, the shorter trans-Mongolia route lowers transportation and construction costs, in turn reducing the starting point of price negotiations with the China National Petroleum Corporation (CNPC) and making Russian gas competitive in the Chinese market.
Yet the elephant in the room is whether China actually wants to buy gas that transits across a third country.
Currently, pipelines to China arrive directly from Myanmar and gas-dependent economies in Central Asia, which provides Beijing with economic leverage. But Mongolia would only be charging transit fees, not exporting gas itself. This means Ulaanbaatar would in effect gain leverage over Beijing - a situation that’s usually intolerable to Chinese leadership.
It is difficult to gauge whether China’s geopolitical calculus has shifted enough to tolerate trans-Mongolian gas supplies. But there are some indicators that it has.
First, the Russians are optimistic. “Before, China refused the Mongolian route option for fear of becoming dependent on the transit country,” Igor Yushkov, a Russian energy expert, told the IDIC. “But now China considers it can withstand any attempt from Mongolia to blackmail it with reliable transit.”
Putin himself also told Miller that the trans-Mongolia route has support from the Chinese government.
Second, construction of China’s fourth pipeline from Central Asia seems to have stalled, possibly due to security concerns in Xinjiang province. If Beijing’s security concerns over Xinjiang are greater than its concerns over transit disputes with Mongolia, then China may see the Power of Siberia 2 as the most viable method of diversifying its gas supplies.
What’s in it for Mongolia?
The other elephant in the room is whether Mongolia will actually benefit from the Power of Siberia 2.
The likely scenario (according to IDIC) is that Gazprom will use its own expertise and money to build the Mongolian section of the line in exchange for lower transit fees. So to answer this question, it’s useful to look at another country that hosts a Russian-built gas pipeline – Poland.
Gazprom built the Polish section of the Yamal-Europe pipeline (which feeds consumers in Germany) using a local subsidiary company and retained a 48 percent stake. Gazprom then saw the transit fees as a method of recovering cost, but Poland wanted to make a profit.
Warsaw has since discovered that it has little leverage to increase the fees given Gazprom’s other routes under the Baltic Sea and across Ukraine.
In 2007, Poland asked for higher fees; Gazprom simply refused to pay and suspended cooperation. The transit contract expired last year and Gazprom now uses the Polish route only when others are full.
Belarus and Ukraine have had similar experiences: in 2004, Russia suspended transit flows to Europe through Belarus as a way of forcing Minsk into paying higher prices; in 2009, Gazprom cut off supplies to Europe through Ukraine to gain leverage in a dispute; and in 2010, Russia cut supplies to Belarus by 30 percent after it failed to pay debts.
Mongolia may find itself in a similar position if the Power of Siberia 2 goes ahead. Gazprom could push for lower transit fees to cover construction costs and then use the leverage created by the existing Power of Siberia line, which plugs the gas fields in Yakutia directly into China, to negotiate against raising transit fees once those costs have been recovered.
Yet Mongolia has leverage of its own. As the shortest and most economical route between Yamal gas fields and Beijing, it has a say over the competitiveness of Russian gas in the Chinese market and therefore over Gazprom’s bargaining power with the CNPC. Ulaanbaatar will also be aware that Gazprom wants to rebalance its exports from the west to the east, which will be difficult to do without Mongolian cooperation on the Power of Siberia 2.
Finally, it's worth mentioning that Mongolia may not receive transit fees for a decade or more. The first Power of Siberia line took nine years to move from the terms and conditions agreement to the first delivery. So even if Gazprom’s current feasibility study in Mongolia returns positive results, there are many hurdles yet to clear.
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