China and Japan Compete for Gas and Oil

COUNTRY BRIEFING - FROM THE ECONOMIST INTELLIGENCE UNIT

The fact that Junichiro Koizumi chose to visit Kazakhstan and Uzbekistan on almost certainly his last foreign excursion as prime minister illustrates the importance of the economic and strategic goals that he sought to pursue there: ensuring energy security and raising Japan's diplomatic profile. Pursuing these goals will inevitably raise tensions between Japan and China, especially if Japan seeks to counter China's initiatives in resource-rich Central Asia. But boosting ties with the region will be a tough job: aside from being at a geographical disadvantage, Japan's close alliance with the US makes it a less attractive partner than China, which has made less noise about the region's patchy human-rights record while taking several steps in recent years to reinforce its own influence there.

Mr Koizumi did not try to disguise the motives for his visits, saying the two countries were "blessed with abundant resources" and speaking of the dangers of Japan being too reliant on limited sources of energy imports. Japan relies on imported supplies of fuel for more than 80% of its total primary energy needs, and in recent years it has been seeking to diversify its sources of oil and gas away from the Middle East. Kazakhstan and Uzbekistan have much to offer in this regard: the former had oil reserves totalling 40bn barrels at the end of 2004, 3.3% of the world's total and second only to Russia outside the Middle East. It also had 3trn cubic metres of gas reserves. Uzbekistan had 100m barrels of oil and 1.86trn cubic metres of gas—although as it consumes nearly all the oil and gas it produces, it has less to offer.

Oil and gas were not at the top of Mr Koizumi's agenda, however. Instead, in both countries he sought to secure agreements on exploring their deposits of rare metals, principally uranium. Owing to its lack of domestic energy resources, Japan has invested heavily in nuclear power to reduce its reliance on imported hydrocarbons. Nuclear power now accounts for around a quarter of net electricity generation. But nuclear plants themselves need imported uranium to function, which is where Central Asia comes in.

Kazakhstan has the world's second-largest reserves of the metal; Uzbekistan the tenth-largest. Both are keen to develop their domestic mining capabilities, with Japanese investment. This is already under way: in January this year Sumitomo, Japan's third-largest trading firm, and Kansai Electric Power Co (KEPCO) signed a deal to develop a uranium deposit with KazAtomProm, the state-owned uranium monopoly. Sumitomo will get a 25% stake and KEPCO 10%, with the combined initial investment expected to be around US$100m. Itochu, another Japanese trading firm, has also signed a deal with KazAtomProm. Malkhaz Tsotsoria, the vice-president of KazAtomProm, has said that Kazakhstan could provide as much as 25% of Japanese demand for uranium in a few years (compared to just a fraction now), with plans afoot to build 12 new mines.

Still, with oil, coal and gas still providing around 65% of Japan's electricity needs (hydroelectric and alternative sources provide the remaining 10%), and fears about the safety of Japan's nuclear plants increasing, the government's long-term energy security plans inevitably lean heavily on diversifying hydrocarbon imports. Central Asia is attractive because it is currently more politically stable than the Middle East, and its governments are keen both to secure investment capital and diversify their export destinations away from Russia. Geography is an obstacle, however: Japan is keen on a scheme to get oil to the Indian Ocean via Afghanistan and Pakistan, bypassing Russia and China (the "southern route"), but it seems doubtful whether this will ever get off the ground.

Competing with China

Another problem is that Japan is already some way behind China in developing economic and diplomatic ties in the region, and it looks unlikely that it will be able to catch up soon. Battles between the two over securing energy supplies have intensified in recent years, with high-profile disputes over Siberian oil and the development of gas reserves in contested territory in the East China Sea adding to the competitive tension. Mr Koizumi's trip to Kazakhstan and Uzbekistan may well have been prompted in part by China's aggressive moves in recent years to strengthen its own economic and diplomatic ties with each country.

China beat Japan by over a year in signing deals to develop uranium mines in Kazakhstan. Last December a US$800m oil pipeline was opened linking Atasu in central Kazakhstan with Alashankou in the north-western Chinese province of Xinjiang. The pipeline has a capacity of 10m tonnes a year (China's total consumption last year was 300m tonnes), but this is expected to double when further stages of the pipeline are built in 2010. In October 2005 the state-run China National Petroleum Corporation (CNPC) bought the Canadian-owned firm PetroKazakhstan, which operates the Kumkol oilfield to which the pipeline will eventually be connected. Joint deals have progressed in Uzbekistan too: the state-owned oil and gas monopoly, Uzbekneftegaz, and the China National Oil Development Corporation (CNODC) recently signed an agreement providing for geological exploration work at five hydrocarbons blocks. CNODC plans to invest US$209m in the project, with US$88m to be disbursed during the first phase.

China has been concentrating on beefing up its strategic links to Central Asia, too, most prominently with the Shanghai Co-operation Organisation (SCO), which includes four Central Asian nations, China and Russia. The group has held joint counter-terrorism operations and has an annual forum, which in recent years has become increasingly vocal on the strategic direction the region should be taking—calling last year for the US to withdraw its troops from Central Asia. By contrast, Japan's bid to improve its diplomatic presence has been weak: in 2004 it sought belatedly to launch the "Central Asia Plus Japan Dialogue", a forum to discuss economic and security ties, but this cannot hope to match the SCO. Japan has, however, sought to exert "soft power" through the disbursement of Official Development Assistance (that is, foreign aid), to the tune of US$2.3bn in 2004.

There has been some return on this investment. Kazakhstan's president, Nursultan Nazarbayev, expressed his support on August 28th for Japan's bid to get a permanent seat on the UN Security Council. Uzbekistan's president, Islam Karimov, also backed it in an interview with Japan's Kyodo news agency before he met Mr Koizumi. Nevertheless, Japan is still at a disadvantage in terms of seeking to enhance its diplomatic profile in the region, as its close alliance with the US puts it firmly in the "Western" camp. Western leaders have shunned Mr Karimov, in particular, since his government's brutal suppression of unrest in Andizhan in May 2005 (shortly after which, partly in response to the US's criticism of the incident, Uzbekistan ordered American troops to leave their base there). China and Russia, which feared the spread of Ukraine- and Georgia-type pro-democracy "colour revolutions", refrained from criticising the incident, and have strengthened their positions as a result.

Mr Koizumi did not mention human rights publicly, but he was reported to have expressed his concern in private to Mr Karimov. He also said publicly that he hoped Japanese support "will ultimately contribute to Uzbekistan's democratisation". However, given that both Central Asian presidents were keen to sign preliminary agreements with Mr Koizumi over the development of various natural resources, it seems likely that he was prepared to soft-pedal on such issues in order to promote Japan's longer-term economic and strategic interests. Nonetheless, his successor will have a tough time matching China's influence in the region.

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