Energy Sector: On the way to selling all assets

Summary

The year 2011 started off with a series of spats over oil supplies, and ended controversially. On the one hand, at the end of the year, Belarus succeeded in signing oil and gas agreements on quite favorable terms, securing itself considerable discounts and guaranteed supplies of both crude oil and natural gas for a few years to come. On the other hand, the country will have to pay a very high price for the discounted rates – from reductions in the overall competitiveness of its economy, resulting from the terms of the accession to the Common Economic Area (CEA), which most Belarusian industries found unfavorable, to a complete loss of assets in the fuel and energy sector.

Trends:

• Growing dependence on Russia for fuel and energy supplies and energy prices.
• Increasing dependence of commodity exports on foreign supplies of refined oil.
• Complete loss of control over natural gas transit.
• Increase in cross subsidies and offsets in the energy sector.

Oil sector

In January 2011, Russian crude oil was not supplied to Belarus, and the local refineries had to use the inventories accumulated during previous months. The stocks had been exhausted by the end of the first month, and the dispute was resolved. Belarus had to comply with Russian terms – despite the abolition of the Russian oil duty, Belarus had to pay an additional USD45-per-tonne premium to Russian crude suppliers and pledged to buy 20 million tonnes of oil in 2011 (the price of supplies was pegged to the volume of deliveries). The new terms of supplies reduced the profitability of oil processing at the Belarusian refineries and limited this country’s capacity to import crude from Venezuela and Azerbaijan (the domestic refineries are capable of processing up to 22 million tonnes of crude annually).

Because Russian oil turned out to be the cheapest option in 2011, Belarus only imported slightly more than 1 million tonnes of azeri light oil via Ukraine, although under the original oil transport deal with Ukraine, this country is supposed to pay the Odessa-Brody pipeline a fee based on the fixed volume of annual supplies of 4 million tonnes of crude, irrespective of the actual volume of pumped oil. Belarus therefore overpaid about USD30 million. Belarus also imported about 900,000 tonnes of Venezuelan oil (eleven 80,000-tonne tankers) through the Estonian seaport of Muuga.

Belarusian oil imports thus totaled 20.4 million tonnes in volume terms, an increase of 38.5% compared to 2010, which was mostly owing to the more favorable supplies of Russian oil. Because the domestic consumption of oil products has remained unchanged over the last few years, at around 8 million tonnes, Belarus managed to increase refined oil exports (by 39.2% year-on-year). Belarus exported a total of 15.6 million tonnes of oil products, of them 3.3 million tonnes to the CIS, up 38.1%, and 12.3 million tonnes to foreign consumers outside the CIS, up 39.6%.

The Netherlands accounted for most of the increase – that country imported 7.2 million tonnes of Belarusian oil products in 2011, which compares to 5 million tonnes in 2010. Export to Latvia rose to 1.9 million tonnes from 853,000 tonnes, while export to Italy went up to 653,600 tonnes from 182,000 tonnes. Belarus’ export proceeds rose because of the increase in both volumes of foreign deliveries and refined oil prices in foreign markets (by 35%).

The growing refined oil supplies to non-CIS foreign consumers, both in volume and value terms, secured a considerable surplus in Belarus’ trade with the West. Furthermore, having sufficient crude imports from Russia, Belarus was able to export domestically-produced crude (about 1.7 million tonnes in 2011). Almost all of last year’s supplies were to Germany, which bought USD1.29 billion worth of Belarusian oil, resulting in quadrupled exports to that European market.

Overall, Belarusian oil exports (crude oil and refined oil) to the European Union amounted to about USD10.4 billion. European oil supplies accounted for two-thirds of the country’s exports to the EU (see Table 1).

Amid the currency crisis and following the two devaluation moves, which cut the value of the ruble almost three times vis-à-vis the basket of foreign currencies, gasoline prices were raised many times in 2011, but they never reached the pre-crisis level in the U.S. dollar equivalent. Moreover, gasoline prices remain the lowest in the region. In December 2011, Belarusian motorists paid USD0.73 per liter of AI-95 gasoline (a 90% increase in nominal terms). Furthermore, the authorities imposed a ban on exporting gasoline by private vehicles in containers other than the fuel tank, whereas the ban on foreign travels in private vehicles more than once in ten days will eventually result in an export duty on gasoline.

In 2011, the intrigue around the privatization of the Belarusian oil refineries continued, although the prospects for selling the refining assets remained vague. However, at the very end of 2011, Belaruskali potash producer took out a USD1 billion syndicated loan from Sberbank of Russia (the loaned money was channeled to the country’s gold and foreign exchange reserves) against the security of a controlling shareholding in Novopolotsk-based Naftan oil refinery, subject to a substantial discount (the government controls 100% in Naftan and only a majority stake in Mozyr NPZ refinery). If Belarus should fail to repay the loan by the end of 2012, Sberbank will gain control of a controlling interest in Naftan.

Gas sector

Belarus imported 20 billion cubic meters of natural gas in 2011: down 7.3% year-on-year. Because the oil basket value to which gas prices are pegged changes on a quarterly basis, Belarus also saw its natural gas fees change every quarter. The average annual price amounted to USD265 per 1,000 cubic meters, and the fourth quarter price reached USD310 (to compare: in 2010, Belarus was paying an average USD185 per 1,000 cubic meters of gas, which means a 42% rise in prices). Although Belarus was paying less in 2011 than its neighbors Ukraine, Poland, or Lithuania, its gas fees were moving close to the average regional price, which affected both the currency market of the country and its trade balance. In late 2011, Russia and Belarus signed a package intergovernmental agreement in the gas sector. The results of the deal for Russian gas giant Gazprom are as follows:

• Gazprom paid USD2.5 billion for the remaining 50% in OAO Beltransgaz.1 Belarus thus became the first country in the region to completely lose all of its transit advantages.2
• Gazprom now controls all of Belarus’ gas pipelines and enjoys the exclusive right to acquire natural gas, which effectively puts an end to the speculations about the possible import of liquefied gas in Belarus.
• All exports of electricity generated using Russian natural gas by January 1, 2015 will be exclusively via Gazprom’s structures.
• Gazprom stipulated the political conditions of the transaction – if Belarus violates them, the Russian natural gas monopoly will be entitled to seek cancellation of the deal and return of USD5 billion together with the payment of all related losses.3

In addition to the USD5 billion that Belarus received for the 100% stake in the gas pipeline operator, the country also managed to agree to a substantial gas price discount for 2012-2014 (for instance, in 2012, Belarus is paying only USD165 per 1,000 cubic meters of gas) and have Gazprom promise to use the transit gas pipelines to their full capacity. The package gas deal therefore has short-term fiscal benefits for the Belarusian side, whereas Gazprom had to make a substantial payment to build yet another link in its long-planned long-term development strategy.

Importantly, the proceeds from the sale of Beltransgaz became a crucial contribution to the country’s depleted gold and foreign exchange reserves and enabled the monetary authorities to introduce a single exchange rate and stabilize the situation in the currency market in the autumn of 2011. Russia also benefits from the stabilization (albeit relative) of the macroeconomic situation in Belarus, therefore, the assets-for-real-money deal benefitted both parties.

In 2011, natural gas transport through Belarus (both by Beltransgaz pipelines and Yamal-Europe gas-main) reached 44.3 billion cubic meters (up 2.5% on 2010).

Despite the currency crisis and the devaluation of the national currency, gas prices for Belarusian consumers remained unchanged throughout the year, falling in the U.S. dollar equivalent for households (gas fees for industrial consumers are fixed in U.S. dollars). At the end of the year, households were paying about USD58 per 1,000 cubic meters of natural gas, while industrial consumers were paying USD274. The gas payment pattern effective in 2011 inflicted losses on gas suppliers, and cross subsidies markedly increased (a few years ago, households paid more than USD100 per 1,000 cubic meters).

Electricity

The Belarusian power grid includes six independent regional republican unitary enterprises, or RUPs,4 also called “oblenergos”, and HV power lines connecting them to power grids of neighboring countries (Russia, Ukraine, Lithuania and Poland). This system is governed by the Belenergo concern, which is accountable to the Energy Ministry of Belarus. The Belarusian power grid is a vertically integrated company, in which generation, transfer and distribution are not separated.

Electrical power generation in Belarus totaled 31.9 billion kilowatt-hours (kWh) in 2011, a decrease by 7.8% compared to 2010. Unlike the year 2010, when almost all of the electricity imports were from Ukraine, in 2011, Belarus imported electricity both from Ukraine and Russia. Imports from Ukraine totaled 2.5 billion kWh, down 12.9% year-on-year. Imports from Russia amounted to 3 billion kWh, up almost 30 times from 2010. Supplies from Russia were limited a few times and were once suspended, because Belarus (Belenergo) failed to meet its contractual obligations (because of the currency crisis, Belenergo was unable to acquire foreign exchange at the Belarusian Currency and Stock Exchange (BCSE) and ran up a USD50 million debt). However, after electricity supplies were suspended in June 2011, the BCSE found enough currency for Belenergo to repay the debt. Yet, Belarus’ reputation was seriously damaged, as the non-payment dispute was broadly covered in Russian and foreign media.

The Belarusian power grid provides transit of Russian electricity to Bryansk, Pskov and Kaliningrad regions of Russia, as well as to Latvia and Lithuania. In 2011, electrical power transit amounted to 2.8 billion kWh.

Electricity fees for households remained unchanged throughout 2011, despite the devaluation of the national currency. As a result, the already low fees fell from USD0.05 to USD0.02 per kWh, while payments for imports ranged from USD0.0615 to USD0.062 per kWh. Domestic-generated electricity is even more expensive, at USD0.069-USD0.07 per kWh.

Electricity fees for industrial consumers are fixed in U.S. dollars, at around USD0.1-USD0.12 per kWh. Natural gas prices (gas accounts for most of the costs that the energy system incurs) were rising much faster than electricity fees, which aggravated the financial situation in the energy sector – it used to make profits, but in 2011, it made losses.

In 2011, Belarus signed a contract with Russian nuclear corporation Rosatom for the construction of its first nuclear power plant. Under the agreement, Russia will provide a 25-year loan for Belarus to finance 90% of the cost of the future plant. Belarus will enjoy a 10-year respite to start repaying the principal, and is supposed to pay up within 15 years.

Despite delays, Belarus is resolved to start building its own nuclear power plant, although it will not be able to complete the construction within the originally announced timeframe (by 2017). However, the economic motives of the state remain unclear: Belarus is taking out a tied (commodity) loan and will not see real money. The power generated by the nuclear power plant will be expensive and uncompetitive. The chance of exporting it to the Baltic States is purely theoretical, whereas the available facilities suffice to meet the domestic requirement. The country’s external debt will markedly grow, but Belarus will not find a way to reduce its energy dependence on Russia.

Conclusion

The year 2011 saw two major trends in the Belarusian energy sector: the country’s dependence on Russia increased quite substantially, and the energy sector turned into a loss-maker from a well-off industry that used to provide considerable currency and budget revenues. Belarus kept receiving energy subsidies from Russia – quite substantial by international standards, although Russia kept its domestic energy prices below those of Belarus. The transactions closed at the end of the year helped improve the financial standing of both Beltransgaz and Belenergo (the latter is the chief buyer of natural gas), stabilize the situation in the currency market and more or less balance the demand and supply of foreign exchange in 2012 (owing to cheaper energy imports and growth in export supplies). This reduced the necessity for an urgent IMF stabilization loan and enabled the authorities to resume their rhetoric about ways to overcome the crisis and get back to the old economic management methods.

The main negative results of the year are as follows:

• There is a growing dependence of the economy on the situation in the oil sector (more than 30% of all exports).
• Weaker competitiveness of the national economy in the long run – any increase in oil and gas prices or change in the terms of supplies – will result in growing domestic prices and shocks in the manufacturing sector.
• Poor motivation for pursuing structural reforms, restructuring and modernizing the economy; in the long term, the country may be faced with de-industrialization.

Short-term benefits yet again outweighed long-term advantages. Belarus may eventually lose all its assets in the energy sector, one of the most liquid sectors of the economy.