ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS. Phase I

Transcription

1 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Phase I

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3 Energy Scenarios for the DPRK Report of the Working Group Convened by the United Nations Phase I University for Peace New York 2005

4 University for Peace Apdo Ciudad Colon, Costa Rica New York Office University for Peace 122 East, 42nd St. Suite 4005 New York, N.Y , USA The findings, interpretations, and conclusions expressed in this publication are those of the authors and do not necessarily represent the views of any organization, the University for Peace or its Board of Executive Directors. All papers contained in this report were originally written before August 2004, except for the Update in the Energy Demand Projections and Supply Options for the DPRK, which was revised in January This report is intended for internal group discussions only and does not represent the official views and conclusions of the Working Group on Energy for the Democratic People s Republic of Korea. 4

5 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS LIST OF CONTRIBUTING AUTHORS Arnold Baker, President, International Association of Energy Economists Prof. Nay Htun, Executive Director for Asia and the Pacific, University for Peace Dr. Phillip Wonhyuk Lim, Law and Economics Division, Korea Development Institute William Martin, Chairman, The Working Group on Energy for DPRK Dr. Keun Wook Paik, Associate Fellow, The Royal Institute of International Affairs Biliana Pehlivanova, Washington Policy & Analysis Frank Pinto, Executive Coordinator, Global Environment Facility, UNDP Isamu Seto, Washington Policy & Analysis Maurice Strong, President, University for Peace Council Dr. Tsutomu Toichi, Chief Executive Economist, Institute of Energy Economics of Japan All contributing authors to this report act in a personal capacity based on their field of expertise, and do not represent the official views of any organizations with which they may be affiliated. Future members of the Working Group on Energy for the Democratic People s Republic of Korea may include, but are not limited to the above. 5

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7 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS TABLE OF CONTENTS PREFACE Maurice Strong ECONOMIC AND ENERGY SCENARIO DESCRIPTIONS AND PROJECTIONS FOR THE DPRK William Martin, Arnold Baker, Biliana Pehlivanova 1. High Growth Low Growth Medium-High Growth Medium-Low Growth Appendix 1: Self Reliance Development through Energy Appendix 2: Discussion Draft DPRK Energy Scenarios ECONOMIC AND ENERGY OUTLOOK & KEY ISSUES FOR NORTHEAST ASIA Tsutomu Toichi 1. Regional Economics of Northeast Asia Economic Outlook for Northeast Asia Global/Asian Energy Outlook Energy Outlook for Northeast Asia Key Issues for Northeast Asia

8 ENERGY DEMAND PROJECTIONS AND SUPPLY OPTIONS FOR THE DPRK Keun-Wook Paik and Wonhyuk Lim Introduction Energy Demand Projections for DPRK DPRK s Energy Consumption Trends DPRK s Energy Demand Projections DPRK s Energy Supply Options Short-Term Energy Supply Options Oil LPG Longer-Term Solutions Electricity Interconnection and Generation LNG Supply Coal Development Indigenous Oil Supply Appendix A: Useful figures on DPRK Economy and Energy Industry Pipeline Gas Introduction to the Korean Peninsula A Brief Review on Korea s Stance towards the Trans-national Pipeline Gas Introduction DPRK s Stance towards Pipeline Gas Introduction Natural Gas Supply Sources for the Korean Peninsula Summary Appendix B: The factors of Pipeline Route and Gas Price Appendix C: Korea s Natural Gas Industry and the Gas Market Availability Update: January DRAFT BRIEF DISCUSSION NOTE: ROLE OF RURAL ENERGY IN THE DPRK Nay Htun 1. A Preamble Brief Overview of DPRK Economic Development an overview Rural Economy and Energy The Role of Coal The Role of Biogas Multi-Functional Energy Platforms Mini and Micro Financing for Expanding Energy Access in Rural Areas Enabling Institutional Mechanisms Appendix: Quotes from the Late President Kim Il Sung

9 RENEWABLE ENERGY RESOURCES Frank Pinto 1. Estimated DPRK Energy Demand/Supply: Estimated Trend in DPRK Energy Demand by Sector: Estimated Trend in DPRK Electricity Demand by Sector: Energy Issues Affecting DRPK during Renewable Energy Resources in DPRK Current Situation in the Rural Electricity Sector Rationale for Working in the Wind Energy Area Existing Wind Energy Industry in DPRK Highlights of the UNDP/GEF Expected Project Financing Summary of UNDP/GEF Project Financing Project Status Update ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS UPDATED STATUS OF KEDO PROJECT AND LESSONS LEARNED Isamu Seto 1. KEDO Presence in Kumho Details About the LWR Project Status of the Kumho Site Key 2002 Events Latest KEDO s Statement 03/26/

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11 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS PREFACE Maurice Strong 22 August, 2005 This presents the results of the extensive work done to examine alternative energy scenarios to meet the long-term energy needs of the DPRK. It is an important component of the broader program of preparatory work undertaken as part of the initiative which the Secretary-General of the United Nations Kofi Annan undertook in January 2003 with a view to contribute to a peaceful settlement of the nuclear issue and of the broader conflict which has divided the Korean peninsula and threatens peace and security in the region and the well-being and future prospects of the Korean people. The Secretary-General s initiative concentrated initially on reducing regional tensions and mobilizing increased international support to meet the immediate humanitarian and economic needs of the DPRK. Soon after its launch, the need for initiating extensive analytical work designed to help prepare the DPRK and the international community for a new era of international cooperation and support for the recovery and revitalization of the DPRK s economy, which is expected to follow from agreement on the nuclear weapons issue, became all too clear. The underlying premise of this work, which I had the privilege of putting together in my capacity as Personal Envoy of the Secretary-General, is that the peaceful resolution of the nuclear weapons and military aspects of this conflict must be accompanied by agreements and arrangements to ensure that the very substantial resources required by the DPRK to meet its long-term humanitarian and economic needs can be met on a basis that is viable and sustainable. This will require a major transformation in their own internal economy, reform of which they have already done, to meet the DPRK s announced objectives of becoming a more active and open participant in the world economy and will require a great deal of time and effort both by the DPRK and its international partners. The DPRK has embarked on a promising program of economic reform 11

12 and modernization and a good deal of preparatory work is being done by other interested parties. The activities undertaken in support of the Secretary-General s efforts have been designed to give strong impetus and coherence to this work while drawing upon the insights and results it is producing. Energy is at the very heart of the DPRK s humanitarian and economic needs affecting virtually every aspect of its economy and the lives and well-being of its people. Continuing shortages of energy, particularly since the suspension of heavy fuel oil supplies pursuant to the 1994 Framework Agreement, have resulted in severe reductions in industrial and agricultural production, transport and the provision of basic health and social services. Anyone visiting the DPRK cannot help but be impressed with the innovative capacities of both the government and the people to mitigate damage to the economy and the difficulties suffered by people as a result of these shortages. They nevertheless continue to exact a heavy cost in both economic and human terms while eroding the capacity for economic recovery and revitalization. This report does not purport to propose specific solutions to the DPRK s energy needs. Rather it presents a number of scenarios designed to illuminate the longer term results of alternative pathways which may result from choices made by the DPRK and the response of the international community to these choices. The development of the DPRK s indigenous resources and internal distribution system as well as its access to external energy sources require substantial and sustainable international financing. The availability of such financing both through development assistance and investment will depend on progress towards a peaceful resolution of the nuclear weapons issue. The recent proposal by the Republic of Korea to provide electric power to the DPRK is a promising example of how the international community will indeed respond to such progress, particularly when it produces agreement on a peaceful settlement. I must add that our experts have not addressed at this stage scenarios involving a peaceful nuclear program by the DPRK. The report is based on the results of the extensive political work undertaken by small groups of highly qualified and dedicated professionals headed by Mr. William Martin, former United States Deputy Secretary of Energy. This core group, members of which are working to a large extent on a pro-bono basis, enabled the work to proceed with only a limited budget. They received valuable input from consultations with many other experts and interested parties whose cooperation made a significant contribution to the work. While the DPRK did not participate directly in the working group it was kept fully informed regarding its progress. This work could not have been undertaken without the support of the United Nations Development Program, the Canadian International Development Agency and Washington Policy and Analysis, as well as the participants already mentioned. The University for Peace was pleased to have been able to provide administrative and facilitating services to this important undertaking which is so fully in line with the mandate of the University to serve the peace and security purposes of the United Nations through education, training and research. While extensive additional work will need to be undertaken with regard to decisions arising from the Six-Party process we trust that the results of this report will make an important contribution to its decisions and provide useful guidelines for the additional work that will be required for their further development and implementation. I am especially grateful to my United Nations and University for Peace colleagues for their critically important, indeed indispensable, support and advice throughout this exercise particularly those who worked 12

13 most closely with me, Aleksandr Ilitchev, Senior Policy Advisor from the United Nations Department of Political Affairs and Professor Nay Htun, Senior Development Advisor. The Working Group would like to thank those responsible for publishing this volume. The editor was Isamu Seto. Audrey Chriqui and Jan Havránek provided assistance in layout and design. The book was designed and produced by Diverzity Studio, Prague, Czech Republic. On behalf of the United Nations Secretary-General, Kofi Annan, and the University for Peace we record our deep gratitude to all those people who have contributed to this work and through it to a peaceful resolution of the conflict, so that Koreans can enjoy durable peace and prosperity in the re-unified Korea to which all aspire. Sincerely, ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 13

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15 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS ECONOMIC AND ENERGY SCENARIO DESCRIPTIONS AND PROJECTIONS FOR THE DPRK William Martin Arnold Baker Biliana Pehlivanova The preliminary planning session held in Vevey, Switzerland in June 2004, concluded that the best way to characterize future economic and energy options for the DPRK is by creating alternative scenarios. Scenarios are not predictions of the future, but rather provide internally consistent sets of possible alternative futures. These pictures of alternative futures can allow systematic consideration of different risks and opportunities. The scenario framework for this study is described briefly below. After much discussion, it appeared that two key drivers for the future of the DPRK are the degree of economic reform (modernization) it chooses to implement and the degree of external cooperation with Northeast Asian countries, the United States and the rest of the world the DPRK receives. The degree of economic reform notionally can vary from limited reform to high reform, and the degree of external cooperation notionally can vary from stalemate (none) to high cooperation. These drivers are depicted in the two axes of the chart below: 15

16 ECONOMIC REFORM (MODERNIZATION) Medium-Low Growth Scenario (GDP Growth Rate 2% 3%) DPRK proceeds with structured economic reform. External cooperation is not available due to slow progress of the Six-Party Talks or other reasons STALEMATE Low Growth Scenario (GDP Growth Rate < 1%) DPRK pursues limited economic reforms External cooperation is not available due to slow progress of the Six-Party Talks or other reasons High Growth Scenario (GDP Growth Rate > 7%) DPRK proceeds with structured economic reform External parties respond to investment needs All external economic restrictions are removed Assumes Six-Party Talks are successful Medium-High Growth Scenario (GDP Growth Rate 5%) EXTERNAL COOPERATION DPRK pursues limited economic reforms Increased availability of economic assistance Assumes Six-Party Talks are successful LIMITED ECONOMIC REFORM The two quadrants on the right hand side of the Economic Reform axis represent a high degree of external cooperation that comes about in large measure because of successful Six-Party Talks that result in resolution of the nuclear and related issues. The two quadrants on the left hand side of the Economic Reform Axis come about largely because of slow progress of the Six-Party Talks. As can be seen, the northeast quadrant of highly structured economic reform and high external cooperation leads to the highest levels of economic growth, expected to be in excess of seven percent real GDP growth per year. In this scenario, all restrictions on DPRK participation in external economic institutions are removed, and effects of the high degree of external cooperation are reinforced by the high degree of internal economic reform. The weakest economic growth occurs in the southwest quadrant, in which there is little or no external cooperation (stalemate) and limited internal economic reform (modernization). Annual real GDP growth may be one percent or less. External cooperation is not forthcoming because of slow progress of the Six-Party Talks. 16

17 The other two scenarios depict economic growth prospects between the high and low cases. The southeast quadrant has high external cooperation, driven by successful six party talks, but also the DPRK decision to undertake limited economic reform. Annual real economic GDP growth here might be on the order of five percent, stimulated by substantial external official aid flows. The northwest quadrant has somewhat lower levels of economic growth, on the order of perhaps two to three percent per year. The low levels of economic cooperation, as noted, would most likely be due to slow progress of the Six-Party Talks, though potentially they also could be due to a lack of interest by other countries. Economic growth is higher than in the low economic growth scenario because the DPRK has instituted structured economic reforms, but the effect of these reforms is limited by the lack of external cooperation. Each of these four scenarios is discussed in more detail below. (See also Appendix 1 and 2) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 1. High Growth 1.1 Key Drivers The Six-Party Talks are successful, leading to high levels of external cooperation and long-term political stability for the Korean Peninsula. At the same time, the DPRK implements significant domestic economic reforms that encourage development of competitive markets and attract foreign technology and investment. 1.2 Economic Development The DPRK becomes an integrated member of the world economic and financial community. Through affiliation with international organizations (i.e. IMF, ADB, IBRD, etc.), it receives access to financial resources, expertise, and trade status. In parallel with development of stable domestic economic institutions and fair business and investment rules and practices, neighboring countries and trading partners engage in joint projects that improve the DPRK s infrastructure and the vitality of its main economic sectors. These factors enable the DPRK to sustain high annual real economic growth rates of seven percent per year or more. Cooperation in Northeast Asia increases significantly. South Korean, American, Chinese, Japanese and Russian companies, along with commercial entities from other countries, contribute to the development of DPRK through investments in vital transportation and energy infrastructures, and the manufacturing and mining sectors. Foreign assistance helps establish training and education centers for professionals and skilled labor. Technology transfer improves healthcare through training and related diagnostic and treatment equipment. To support the economic expansion, new roads, railroads and ports are built. In turn, these stimulate foreign investment and technology transfer to build and expand DPRK manufacturing production centers. DPRK and foreign investors are able to capitalize on the country s abundant highly skilled and economically com- 17

18 petitive labor force. Fertilizers and improvements in agricultural equipment help the domestic agricultural industry satisfy increasing domestic food needs. A modern banking system is developed that meets the needs of growing domestic businesses and the expanding financial services required by the rising incomes of the DPRK people. Domestic regulatory institutions are established to insure fair competition and provide for improved health, safety and security of the people of DPRK. 1.3 Energy Sector Economic expansion leads to growing demand for oil in the transportation sector and expanded domestic refining capacity to help meet that demand. Foreign capital and technology stimulate domestic offshore drilling and exploration, expanding domestic oil and natural gas production, and reducing, but not eliminating the need for oil and natural gas imports. Oil imports are diversified through regional cooperation, as are natural gas imports and electricity trade. Sustained economic development and growth of energy intensive industrial production and manufacturing is supported by a modernized domestic energy infrastructure. A well-run national power grid is established, with renewable energy and small power generators used in off-grid applications for rural economic development until the grid is more fully integrated. Advanced power generation technologies for coal, natural gas and renewables (including expanded hydro electric power, wind, biomass and solar), coupled with the national power grid, provide a modern, energy efficient and environmentally safe energy foundation, avoiding significant air and water pollution, supporting domestic jobs, and providing a stable, secure domestic fuel mix for electricity generation. As the DPRK economy continues to expand, natural gas becomes an increasingly important domestic industrial, commercial and residential energy source, and source for petrochemical feedstocks. To meet rising natural gas demand, several potential areas of supply are considered (i.e. Irkutsk, Sakhalin, etc.), and a regional natural gas pipeline system is developed, linking the DPRK to Sakhalin Island, the ROK and other regional natural gas supplies. 1.4 Summary Over the next 20 years the DPRK integrates into the world and regional economic and financial communities and develops into a modern, industrialized nation, incorporating its rural and remote communities. Its success is built on global and regional stability and cooperation, sound domestic economic policies and institutions that foster competition and productivity, while providing for a cleaner environment and improved health and safety. The DPRK establishes a modern energy, transportation and communications infrastructures, and utilizes its indigenous resources efficiently and environmentally consciously, enabled by FDI, technology transfer, training, education, and financial aid. The DPRK achieves significantly improved self-reliance by fully and productively employing its skilled labor force, natural resources and capital. It em- 18

19 ploys clean coal and other advanced energy technologies, introduces natural gas and increases the share of renewable energy in its fuel mix, and geographically diversifies its oil imports. 2. Low Growth 2.1 Key Drivers The Six-Party Talks are not successful in resolving DPRK s nuclear program, and the lack of external cooperation and instability on the Korean Peninsula continues over the next 20 years. The DPRK pursues very limited economic reforms, retains a centrally-planned structure of the economy and does not encourage foreign investment. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 2.2 Economic Development The DPRK remains outside world economic and financial community, and does not have access to its financial resources, expertise, and trade status. In light of its centrally-planned economy, there is little foreign interest in joint projects to improve the DPRK s infrastructure. DPRK s energy, transportation, and communications infrastructures continue to struggle, and its economic vitality remains very weak. These factors keep annual real economic growth rates below one percent per year. Cooperation between the DPRK and Northeast Asia remains weak. There is little foreign interest in investing in mining and manufacturing, providing technology transfer or education and training. Limited cooperation between the DPRK and foreign countries is carried out mainly in the form of humanitarian assistance and aid to support the immediate needs of its people. The economy continues to be based on labor-intensive manufacturing, with limited improvement in productivity. Transportation infrastructure continues to be an impediment for increasing the economic ties between the DPRK and its neighbors. Rehabilitation of energy infrastructure is carried out to the extent that domestic funding allows, and some additional generation capacity is added. However, the country continues to experience electricity shortages, as electricity transmission and distribution remain a challenge. Energy shortages limit economic growth, especially in the manufacturing and industrial sectors. It is difficult to upgrade the vital coal-mining sector, and damages from flooding and outdated equipment continue to pose problems. Rehabilitation of the energy sector progresses slowly at best, as the lack of capital limits much needed upgrades and equipment replacement. The DPRK exports very little. With little access to foreign capital and assistance, its ability to import needed petroleum, food, fertilizer and medicine remains limited. 19

20 The agricultural sector continues to struggle due to lack of fertilizers and delayed upgrades of equipment and technology. Domestic food production remains insufficient to feed the people, and food shortages are frequent. A modern banking system and regulatory institutions fail to develop. Domestic levels of health, safety and security remain near current levels. The minor economic reforms that the government implements encourage some small private entrepreneurs to operate on the fringes of the economy, but do not significantly affect overall economic wellbeing or employment. 2.3 Energy Sector With very weak economic growth and a limited energy and transportation infrastructures, demand for oil for transportation grows slowly. Additional domestic refining capacity is not built, due to limited capital availability. Domestic oil exploration is weak and inconsistent, and only adds modest oil supplies. Oil imports grow slowly, and remain dependent on the good will of Peninsula neighbors. Continued lack of a modernized domestic energy infrastructure limits economic growth potential. With limited foreign assistance, only minor improvements are made to the present weak electric grid. While additional hydroelectric power is built with domestic investment, and modest technology improvements in coal fired power generation become available, the DPRK electricity supply remains coal and hydroelectricity based, and insufficient to meet needed electricity demand. Coupled with the lack of an integrated national electricity grid, electricity shortages and blackouts are frequent, frustrating citizens and companies alike, and increasing domestic health and security risks. Rural economic development is especially weak, as only small amounts of distributed renewable electricity (wind, tidal, solar) become available, due to limited assistance from international organizations. With a weak economy and limited access to advanced energy and manufacturing technologies, air and water pollution problems grow, adversely affecting agriculture and health. Natural gas does not become a feature of the DPRK economy. It is too costly to build a domestic natural gas transportation and distribution infrastructure, and to retrofit existing coal and oil boilers. Because of continued political instability on the Peninsula, other countries extend natural gas infrastructure without consideration of DPRK needs or future market demand potential. Once the regional natural gas infrastructure is in place, it becomes very costly to alter it, and natural gas supplies to the DPRK become problematic. 2.4 Summary Over the next 20 years the DPRK remains isolated from the world, does not become an integral part of the regional economic and financial communities, and its economy struggles to meet the needs of its people, especially those in its rural and remote communities. This situation comes about through the continued lack of stability and cooperation in the Korean Peninsula, and limited domestic economic reforms that 20

21 hinder productivity growth, fail to slow environmental pollution, and put health and safety at risk. Its energy, transportation and communications infrastructures stagnate. The DPRK remains unable to feed its people; and it utilizes its indigenous energy and labor resources inefficiently. It receives limited foreign humanitarian aid to help with short-term crises, and the crises continue. It is unable to make any significant improvements in self-reliance. The DPRK continues to depend upon coal, hydro and outdated power generating technologies for its electricity; its electricity grid remains fragmented; its people and industries are faced with electricity shortages and blackouts; and it depends on the good will of Peninsula neighbors for needed oil imports. 3. Medium-High Growth ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 3.1 Key Drivers The Six-Party Talks are successful, leading to high levels of external cooperation and long-term political stability for the Korean Peninsula. At the same time, the DPRK implements limited domestic economic reforms, and retains a centrally planned economic structure that does not attract substantial foreign private investment and technology. 3.2 Economic Development The DPRK becomes an integrated member of the world economic and financial communities. Through affiliation with international organizations (i.e. IMF, ADB, IBRD, etc.), it receives access to financial resources and expertise. This enables neighboring countries and trading partners to undertake joint government and IFI projects to improve the DPRK s infrastructure and support improvement in its main economic sectors, including exports. These factors enable the DPRK to sustain annual real economic growth rates in the five percent range. Cooperation in Northeast Asia increases significantly. South Korean, American, Chinese, Japanese and Russian governments, along with other country governments and the international financial institutions, contribute to the development of the DPRK through financial support and assistance for vital transportation and energy infrastructures, and for the manufacturing and mining sectors. Foreign assistance helps establish training and education centers for professionals and skilled labor. Official technology transfer improves healthcare through training and providing some diagnostic and treatment equipment. To support the moderate economic expansion and export growth, additional roads, railroads and expanded port capacity are built. These help support domestic manufacturing and export industries that capitalize on the country s abundant highly skilled and economically competitive labor force and help finance import needs. Additional fertilizer and agricultural equipment imports improve domestic food production, though significant food imports are still needed. 21

22 A modern banking system fails to develop, though modest banking reforms are enacted in response to the needs of moderately growing domestic businesses and the financial services required by the rising incomes of the DPRK people. Domestic levels of health, safety and security improve, but are still below levels in neighboring countries. Centralized planning becomes increasingly complex, as parts of the economy respond to increased foreign assistance, but are unable to attract sufficient private capital investment to meet demands for goods and services, and government controls try to allocate resources appropriately. Through modest economic reforms, the government encourages some small private entrepreneurs to operate on the fringes of the economy, but these primarily complicate the centralized planning and control system. Domestic regulatory institutions remain largely untouched by reforms, and are not capable of sustaining a market economy. 3.3 Energy Sector Moderate economic expansion leads to growing demand for oil in the transportation sector and imported petroleum products to meet that demand. Some domestic capital and foreign assistance stimulate domestic offshore drilling and exploration, modestly expanding domestic oil production, and marginally reducing the need for oil imports. Oil imports are diversified through regional cooperation, as are any requirements for natural gas imports and electricity trade. Economic development and growth of energy intensive industrial production and manufacturing is supported by an improved domestic energy infrastructure. Through foreign assistance, a limited national power grid is established and works well in the urban centers. Foreign assistance supports renewable energy and small power generators in off-grid applications for rural economic development. Penetration of some advanced power generation technologies for coal, natural gas and renewables (including expanded hydro electric power, wind, biomass and solar), coupled with the limited national power grid, provide a significantly improved, moderately energy efficient and more environmentally viable energy foundation, reducing air and water pollution, supporting domestic jobs, and providing a reasonably stable and secure domestic electricity mix. Rural economic development proceeds slowly, as some distributed renewable electricity (wind, tidal, solar) become available through assistance from international organizations. As the DPRK economy continues to expand, natural gas becomes a modestly important domestic industrial, commercial and residential energy source, and source for petrochemical feedstocks. To meet rising natural gas demand, limited LNG importing facilities are developed. 3.4 Summary The DPRK becomes an integrated member of the world economic and financial communities. Through affiliation with the WTO, IMF, ADB and IBRD communities, it receives access to their financial resources and expertise. This enables joint development of government and international financial organizations projects 22

23 to improve DPRK s infrastructure and key economic sectors. Its success is built on global and regional stability and cooperation, with access to institutional and foreign governments financial and technical support. The DPRK establishes improved energy, transportation, communications and agricultural infrastructures, and utilizes its indigenous resources somewhat more efficiently and environmentally consciously, enabled by foreign direct investment, technology transfer, training and education, and financial aid. Its economic growth and development is limited by a centrally planned economic system, which fails to attract private foreign investment and private technology transfer. It achieves a somewhat greater level of self-reliance by more productively employing its skilled labor force, natural resources (including agriculture and water) and domestic capital. It employs moderate use of clean coal and other advanced energy technologies, introduces natural gas, somewhat increases the share of renewable energy in its fuel mix, and geographically diversifies its oil imports. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 4. Medium-Low Growth 4.1 Key Drivers The Six-Party Talks are not successful in resolving DPRK s nuclear program, and the lack of external cooperation and instability on the Korean Peninsula continues over the next 20 years. Nonetheless, the DPRK undertakes significant domestic economic reforms to encourage development of competitive markets and attract foreign technology and investment. 4.2 Economic Development The DPRK remains outside the world economic and financial communities and is unable to access its financial resources, expertise, and trade status. Its domestic economic reforms move it from a centrally planned economy toward a market-based, competitive one, with supporting fair business and investment rules and practices. But without regional and world support, only modest amounts of private foreign capital become available to develop its key infrastructures and industries. DPRK s energy, transportation and communications infrastructures, though improved modestly, continue to struggle, and its economic vitality remains weak. These factors keep annual real economic growth rates in the two-three percent per year range. Cooperation between the DPRK and Northeast Asia remains weak. There is only modest foreign interest in investing in mining and manufacturing, providing technology transfer, and education and training. Limited cooperation between the DPRK and foreign countries is carried out mainly in the form of humanitarian assistance and aid to support the immediate needs of its people. The economy continues to be based on labor-intensive manufacturing, though some new foreign investment supports higher technology products that utilize its well- trained labor force, and helps modestly improve domestic labor productivity. Transportation infrastructure continues to be an impediment to increasing the economic ties between the 23

24 DPRK and its neighbors, as private investment in this area is particularly limited. Rehabilitation of energy infrastructure is carried out to the extent that domestic funding and modest foreign investment allows, and modest additional electric generation capacity is added. However, the country continues to experience electricity shortages, as electricity transmission and distribution remain a challenge. Energy shortages limit economic growth, especially in the manufacturing and industrial sectors. Only modest upgrading of the vital coal-mining sector is possible, and damages from flooding and outdated equipment continue to pose problems. Rehabilitation of the energy sector progresses slowly, as the lack of capital limits needed upgrades and equipment replacement. The DPRK exports modestly, using revenues to help finance needed imports. With limited access to foreign capital, because of the lack of external cooperation and instability on the Peninsula, its ability to import needed petroleum, food, fertilizer and medicine remains limited. The agricultural sector continues to struggle from a lack of fertilizer and needed upgrades of equipment and technology. Domestic food production remains insufficient to feed the people, and food shortages are frequent. A modern banking system is developed that meets the needs of domestic businesses and entrepreneurs, and the financial services required by the modestly rising incomes of the DPRK people, both to stimulate domestic economic development and in the hopes of attracting additional private foreign capital. Some domestic regulatory institutions are established to insure fair competition and provide for improved domestic health, safety and security, but these institutions are note well funded. 4.3 Energy Sector With modest economic growth and a limited energy and transportation infrastructures, demand for oil for transportation grows moderately. Only limited domestic refining capacity is added. Domestic oil exploration continues somewhat with weak foreign capital and technology support, and adds moderate oil supplies. Oil imports grow moderately, and remain dependent on the good will of Peninsula neighbors. Continued lack of a modernized domestic energy infrastructure hinders economic growth potential. Still, the limited foreign assistance and modest private foreign capital investment are able to make some improvements to the present weak electric grid. A moderate amount of new hydroelectric power is added through domestic and foreign investment, as is a modest amount of advanced coal fired power generation. The DPRK electricity system remains coal and hydroelectricity based and insufficient to meet growing electricity demand. Coupled with a still poorly operating electricity grid, electricity shortages and power blackouts still occur, frustrating citizens and companies alike, and increasing domestic health and security risks. Rural economic development continues to be weak, as only modest amounts of distributed renewable electricity (wind, tidal, solar) become available, due to limited assistance from international organizations and modest private capital. With modest economic growth and limited access to advanced energy and manufacturing technologies, air 24

25 and water pollution problems continue, adversely affecting agriculture and health. Natural gas only becomes a marginal feature of the DPRK economy. It is costly to build a domestic natural gas transportation and distribution infrastructure, and to retrofit existing coal and oil boilers, so natural gas is only employed in high valued uses (e.g., petrochemical feedstocks). Because of continued DPRK-Peninsula instabilities, other countries extend their own natural gas pipeline and LNG infrastructures without consideration of DPRK needs or future market demand potential. Once the new Peninsula natural gas infrastructure is in place, it becomes very costly to alter it, and natural gas supplies for the DPRK become problematic. 4.4 SUMMARY ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Over the next 20 years the DPRK remains isolated from the world and regional economic and financial communities, and its economy struggles to meet the needs of its people, especially those in rural and remote communities. This situation comes about through the continued lack of stability and cooperation on the Korean Peninsula, despite domestic economic reforms that attract modest foreign capital and improve productivity growth. Environmental pollution continues, putting the health and safety of the people of the DPRK at risk. Its energy, transportation and communications infrastructures improve modestly; it remains largely unable to feed its people; and while the DPRK improves utilization of its indigenous energy and labor resources, those uses remain largely inefficient. The DPRK receives limited foreign humanitarian aid to help with short-term crises. It is only able to make modest improvements in self-reliance. It continues to largely depend upon coal, hydro and older power generating technologies for its electricity; its electricity grid though improved, remains fragmented; its people and industries are faced with electricity shortages and blackouts; and it largely depends on the good will of Peninsula neighbors for needed oil imports. 25

26 Appendix 1: Self Reliance Development through Energy 26

27 Appendix 2: Discussion Draft DPRK Energy Scenarios (August 23 rd, 2004) High Growth Scenario ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS HIGH GROWTH Integrated Electricity Grid Electricity Trade with Neighboring Countries Natural Gas Distribution System Nuclear Plant by 2025 Expanded Domestic Refining Capacity Domestic Oil Exploration & Production Some Market Based Renewables in Rural Areas 27

28 Low Growth Scenario LOW GROWTH SCENARIO Balkanized Electricity Grid Minimal Electricity Imports No Natural Gas or Nuclear Over Reliance on Biomass Limited Domestic Refining Capacity No Domestic Oil Production Very Modest Renewables from UNDP 28

29 Medium-High Growth Scenario ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS MEDIUM-HIGH GROWTH Limited National Power Grid Some Electricity Imports Natural Gas Distribution for Industrial & Modest Electric Generation Nuclear Plant by 2025 Expanded Domestic Refining Capacity Domestic Oil Exploration & Production Some Market Based Renewables in Rural Areas 29

30 Medium-Low Growth Scenario MEDIUM-LOW GROWTH Marginal Improvements in Electricity Grid Limited Electricity Imports from ROK Increase in Small Hydro Limited Natural Gas No Nuclear Modest Increase in Refining Capacity No Domestic Exploration or Production Very Modest Renewables from UNDP 30

31 DPRK 2025 Energy Demand Scenario Comparsion ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS DPRK 2025 Electricity Input Scenario Comparsion 31

32 DPRK Crude and Product Supply 2025 Scenario Comparsion 32

33 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS ECONOMIC AND ENERGY OUTLOOK & KEY ISSUES FOR NORTHEAST ASIA Tsutomu Toichi 1. Regional Economics of Northeast Asia The end of the Cold War has resulted in further economic globalization promoted by trends such as the transition to market economies and the spread of information technology (IT). Many developing countries in Asia have achieved an overall high rate of economic growth thanks to the fast-paced expansion of trade and foreign direct investment (FDI), close mutual economic ties and industrialization. In the process, they have made the region into the growth center for the entire world economy. Due to its economic advances, energy demand in Asia continues to expand much faster than in other parts of the world, having increased energy imports in recent years from outside the region, particularly from the Middle East. While economic globalization has advanced, we have seen the expansion and formation of both new and existing regional economic blocks such as European Union (EU), North American Free Trade Agreement 33

34 (NAFTA), Association of Southeast Asian Nations plus Japan, the Republic of Korea (ROK) and China (ASEAN + three) and the Asia Pacific Economic Council (APEC). In Northeast Asia, however, no such institutional framework has begun to take hold. Northeast Asia is normally defined as a natural economic region which includes Japan, Northeast China, ROK, the Democratic People s Republic of Korea (DPRK), Eastern Russia and Mongolia. Although the political events in the 20th century still overshadow the present in Northeast Asia, political and economic ties between the six different countries are moving in a positive direction, albeit rather belated. If we look at Northeast Asia as an economic region, the most remarkable feature is its great diversity in terms of economic development stages, indigenous energy resources and energy requirements. For example, as shown in Table 1, GDP per capita is $32,610 for Japan, $8,930 for ROK, $2.140 for Russia, $910for China, and $440 for Mongolia in While Japan and ROK are very rich in capital and advanced technologies, China and DPRK have an abundant, high quality, low-cost labor force. In the energy sector, Japan and ROK have scarce domestic energy resources, and most of their energy needs are supplied via imports. Population GDP GDP Per Capita Annual Growth (millions) ($ billions) ($) (%) China DPRK 22.4 n.a. n.a. n.a. Japan Mongolia ROK Russia Table 1. Key Economic Indicators of Northeast Asia (2001) Source: The World Bank, 03 World Bank Atlas 2003 China is also increasing oil imports in recent years as its oil consumption continues to out-pace domestic production. The DPRK is facing serious energy shortages due to economic and political difficulties. Japan and ROK are promoting energy policies to reduce dependency on Middle East oil by diversifying energy sources. In contrast, Eastern Russia including Sakhalin is very rich in undeveloped oil, natural gas and hydroelectric power energy resources. On the whole, Northeast Asia has not only tremendous amounts of investment capital and advanced technologies, but also abundant energy resources and low-cost labor forces. Exploiting these advantages by 34

35 deepening intra-regional economic relationships will help us to build a prosperous and peaceful Northeast Asia in the 21st century. 2. Economic Outlook for Northeast Asia Economic Partnership Agreements (FTA) and other strong ties of interdependence among the economies in Asia are expected to develop further and keep the rates of economic growth at high levels in next several decades. According to projections from Asia/World Energy Outlook, 2004 created by the Institute of Energy Economics, Japan (IEEJ), the world economy is expected to show moderate growth at an average rate of 2.7% from driven by the Asian economy (Table 2). If we look at major energy importing countries in Northeast Asia, China, ROK and Japan are expected to show very different economic development as follows. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Population GDP Population GDP World N.E. Asia China Japan Korea Table 2. Projection of Annual Average Growth Rates of Population and GDP (%) Source: The Institute of Energy Economics, Japan (IEEJ), Asia/World Energy Outlook, 2004 March, 2004 The Chinese economy sustained high rates of growth throughout the 1990s with the support of its domestic demand, and stayed in the 7 9% range in recent years. It managed to record growth of 7.3% in 2001 in spite of the decelerating U.S. economy and slumping performance among Asia s newly industrializing economies (NIEs) and ASEAN countries. Furthermore, following its admission into the World Trade Organization (WTO) in 2002, China posted high rates of economic growth, at 8.0% in 2002 and 9.1% in Although it is saddled with an array of problems such as internal economic disparities, the need for state enterprise reform, unemployment, and bad debt, China should be able to achieve high growth at rates averaging 7.2% over the long term, provided that it continues to practice proper macroeconomic management. The Japanese economy has stagnated for more than a decade mainly due to enormous bad loans in the banking sector after the burst of the economic bubble in the early 1990s. But the recent progress of economic reform in the corporate sectors has started to stimulate economic activity coupled with significant 35

36 increases in exports to China and the US. The forecast for Japan is comparatively low growth at a rate of 1.3% owing to factors such as economic maturation and the decline in the labor population accompanying population decreases and aging. The ROK economy continued to expand with growth rates of more than 7% by the late 1990s when the Asian currency crisis occurred in 1997 which seriously damaged its economy. Major economic reforms after the crisis have succeeded in bringing about a remarkable economic recovery aided by sharp increases in exports to China in recent years. The ROK economy is expected to expand with a moderate growth rate of 4.3% during next two decades due to rising labor costs and more fierce international competition from other Asian countries. 3. Global/Asian Energy Outlook According to IEEJ projections, the world s primary energy consumption is expected to increase at an average annual rate of 2.1% during the years The volume in 2020 is expected to reach 13.6 billion oil-equivalent tons (toe), a 1.5-fold increase from the 9.1 billion toe in Roughly 70% of the increases in energy consumption will be derived from non-oecd countries (primarily developing countries). Non- OECD Asian countries will probably account for about two-thirds of the total, and China for about 30%. Fossil fuels (coal, oil, and natural gas) are expected to contribute about 90% of the increases in primary energy consumption during the years , thus should continue to play a major role as an energy source. Oil consumption is expected to show the largest increases of all fossil fuels and account for 35% of the increase in primary energy consumption, followed by natural gas at 30% and coal at 26% Total Coal Oil N. Gas Nuclear Hydro Power etc. World Asia World Asia Table 3. World Primary Energy Consumption by Source (Million toe) Note: Asia refers to China, Japan, Hong Kong, Taiwan, South Korea, Singapore, Brunei, Indonesia, Malaysia, Philippines, Thailand, Vietnam, India and other parts of Asia. Source: IEEJ, Asia/World Energy Outlook, 2004 March,

37 World oil consumption is expected to rise from 70 million B/D (3.5 billion toe) in 2000 to 102 million B/D (5.1 billion toe) in Asia should account for about 50% of this increase. It is estimated that about 60% of oil demand will come from the transportation sector. The share of oil in primary energy consumption is expected to decline slightly, from 39% in 2000 to 37% in 2020, but oil would nevertheless remain the single largest energy source (Table 4). Consumption of natural gas, which reached 2,341 billion m3 (2.1 billion toe) in 2000, is expected to hit 3,877 billion m3 (3.5 billion toe) in 2020, the highest increase among fossil fuels. The installation of combined-cycle power generation systems fueled with natural gas is steadily spreading due to advances in utilization technology and environmental compatibility considerations. About 60% of the increase in natural gas consumption should come from fuel put into the power sector. Expanded utilization led by this sector is expected to drive an increase in the natural gas share of primary consumption, from 23% in 2000 to 26% in ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS In oil-equivalent terms, world coal consumption is expected to rise from 2.3 billion toe in 2000 to 3.5 billion toe in Asia should account for about 70% of this increase, and China, about 40%. Roughly 90% of coal consumption demand will probably come from the power sector as the trend toward fuel for power generation deepens. The coal share of primary energy consumption should remain more or less unchanged at around 26% over the years Coal Oil N. Gas Nuclear Hydro Power etc Table 4. World Primary Energy Consumption by Source(%) Source: IEEJ, Asia/World Energy Outlook, 2004 March, 2004 In oil-equivalent terms, the consumption of power generated by nuclear power plants is expected to rise from 676 million toe in 2000 to 781 million toe in The nuclear share of primary energy consumption is expected to decline from 8% in 2000 to 6% in 2020 due to the fast-paced expansion of natural gas utilization in the power sectors of developed countries in North America and Europe and their virtual lack of prospects for construction of additional nuclear power plants. The increase in generated output of nuclear power plants should be confined almost exclusively to a few countries in Asia. In East Asia, nuclear power will continue to play a vital role in Japan, South Korea, and Taiwan, which have few domestic energy resource reserves, and China, with its rapidly growing demand for electricity. There are high hopes for the spread of renewable energy sources with little environmental impact such as hydroelectric power, geothermal energy, and new energy. Their share of primary energy consumption is expected to increase from 5% in 2000 to 6% in However, they will not rank on par with fossil resources as pillars of the base energy supply due to their high supply cost and unstable supply caused by natural influences such as the intermittent nature of photovoltaics and wind power. 37

38 4. Energy Outlook for Northeast Asia 4.1 China, Japan and ROK Primary energy consumption in China Japan and ROK is expected to grow from 1648 million toe in 2000 to 2927million toe in 2020 (Table 5). China s primary energy consumption is projected to double from 932 million toe in 2000 to 2063 million toe in 2020, although ROK and Japan are expected to expand energy demand 1.6 and 1.1 times respectively. As a result, about 88% of consumption increases in Northeast Asia over forecast period is derived from expanded consumption in China, followed by Korea at about 9% and by Japan at about 3% only. In Northeast Asia as is occurring globally, fossil fuels (coal, oil, and natural gas) are expected to continue to play a vital role as sources of energy, and account for about 90% of the increases in primary energy consumption over the forecast period. Coal is expected to have the largest share of the increase at 42%, followed by oil at 31% and natural gas at 14%. Annual average growth rates of fossil fuels are 2.6% for coal, 2.6% for oil and 5.0% for natural gas. Consumption of oil, which was about 12 million B/D (591 million toe) in 2000, is expected to increase by an average annual rate of 3.1% and reach 20 million B/D (982 million toe) in China is expected to account for about 95% of the increase, ROK about 8%, but Japan is expected to decline about 3%. The greatest increases will come from transportation followed by the residential/commercial and industrial sectors. The oil share of primary energy consumption is expected to dip from 36% in 2000 to 34% in Total Coal Oil N. Gas Nuclear Hydro Power etc N.E. Asia China Japan ROK N.E. Asia China Japan ROK Table 5. Primary Energy Consumption by Source (Million toe) Source: IEEJ, Asia/World Energy Outlook, 2004 March,

39 Coal Oil N. Gas Nuclear Hydro Power etc Table 6. Northeast Asia s Primary Energy Consumption by Source (%) Source: IEEJ, Asia/World Energy Outlook, 2004 March, 2004 Consumption of natural gas is expected to undergo a 2.6-fold increase from 122 billion m3 (110 million toe) in 2000 to 322 billion m3 (290 million toe) in 2020, for growth at the highest rate of all fossil fuels. It is estimated that about 50% of the consumption increase will come from fuel use in the power sector. The natural gas share of Northeast Asian primary energy consumption is expected to grow from 7% in 2000 to 10% in 2020, yet shifts in natural gas should be slower than those in North America and Europe. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Consumption of coal is expected to rise from 789 million toe in 2000 to 1325 million toe in China will probably account for about 94% of the increase, while the ROK and Japan will probably account for about 5% and 1% respectively. About 90% of the increase will come from power generation, while the remaining 10% will come from industry. While the share of primary energy consumption for coal is expected to slip from 48% in 2000 to 45% in 2020, it should retain the single largest share of the primary energy supply in Northeast Asia. Consumption of power generated by nuclear power plants is expected to increase from 116 million toe in 2000 to 217 million toe in Almost all of the corresponding global increases should come from Northeast Asia. There are strong prospects for growth in China and in countries with few domestic energy resource reserves of such as Japan and Korea. China is expected to account for about 56% of the nuclear power increases in Northeast Asia. The nuclear share of primary energy consumption should stay at about 7% over the period to The share of renewable energies (e.g., hydroelectric power, geothermal energy, new energy) is expected to increase from 3% in 2000 to 4% in It should be noted, that energy consumption is expected to expand rapidly in the region, thus requiring a rapid response to ensure a stable supply of energy. These circumstances will act to limit the utilization of renewable energies, whose supply tends to be unstable due to natural conditions (except hydroelectric power and geothermal energy). Nevertheless, the installation of new energy systems with low environmental loads will continue to play a key role. The rate of oil dependence on the Middle East will deepen steadily in Japan, China, and ROK. It is expected to reach about 90% in Japan and 80% in ROK in It is also expected to jump from 15% in 2000 to about 50% in China in 2020 due to sharp increases in oil demand and the leveling off of domestic production. The corresponding rate of dependence on the Middle East in Northeast Asia as a whole is expected to rise from 58% in 2000 to approximately 70% in 2020 with the quantitative expansion of consumption in China. If the three countries begin to import crude oil produced in Siberia (in quantities totaling about 100 million tons per year), the corresponding rate may be lowered by about 11%. 39

40 4.2 DPRK and Mongolia According to projections from the Korea Energy Economics Institute (KEEI), DPRK s primary energy consumption is expected to increase from million toe to million toe, at an average annual rate of 7.4% over the years (Table 6). The current energy consumption per capita of the DPRK is 0.17 toe/capita almost the same as that of China. Once foreign direct investments are introduced into the DPRK to revitalize its stagnant economy, demand for energy is expected to grow rapidly. In order to reach a stable supply of energy, the DPRK must make every effort not only to expand domestic coal energy production, hydroelectric power and other sources, but also increase oil and natural gas imports. The projections in Table 7 assume that the KEDO (Korean Peninsula Energy Development Organization) project will be completed by 2015, and also assumes that the Siberian gas pipeline would pass through DPRK territory from If not, alternative scenarios for energy supply sources will have to be examined. According to projections from the Korea Energy Economics Institute (KEEI), DPRK s primary energy consumption is expected to increase from 15.7 million toe to 65.3 million toe, at an average annual rate of 7.4% over the years Total Coal Oil N. Gas Nuclear Hydro Power etc (100) (72) (7) (21) (100) (45) (36) (5) (5) (9) Table 7. DPRK s Primary Energy Consumption by Source (Million toe, %) Note: * The projection assumes that the KEDO project will be completed by ** The projection also assumes that the Siberian gas pipeline will pass through DPRK territory from Source: Korea Energy Economics Institute (KEEI), 2002 KEEI also projects that the primary energy consumption of Mongolia will increase from 2.6 million toe in 2000 to 3.7 million toe in 2020 at an annual growth rate of 0.1%. As its total amount of energy consumption will remain very small, the impact on Mongolia s energy balance will be minimal from a regional viewpoint of Northeast Asia for the foreseeable future. 4.3 Russia The primary energy consumption of Russia is expected to increase from 612 million toe in 2000 to 841 million toe in 2020 at an annual growth rate of 1.6%. Russia is the largest natural gas producer and ex- 40

41 porter in the world as well as the second largest oil exporter after Saudi Arabia. Most exports of oil and gas have up to now been directed to European countries mainly through pipeline networks and oil tankers. As the Eastern regions of Russia depend almost entirely on extra-regional shipments of oil and the need for Northeast Asian countries to pursue a policy of diversification of their supply sources of oil and gas, it is quite rational for Russia to develop abundant energy resources in East Siberia and the Russian Far East, including Sakhalin. In terms of its resource base, it is estimated that the Eastern regions of Russia account for 45% of coal, 30% of natural gas and 18% of oil resources, over 80% of hydroelectric power for Russia as a whole. Proven Reserves Global Share (%) R/P Ratio ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Oil (Billion toe) % 22.2 Natural Gas (Trillion m 3 ) % 81.2 Coal (Billion toe) % - Table 8. Proven Russian Reserves of Oil, Natural Gas and Coal (at end of 2003) Source: BP Statistical Review of World Energy, June 2004 Various oil and gas projects and their feasibility being considered depend on access to long distance, large capacity pipelines. The construction of mega-pipelines requires enormous capital funds and a long-term return-on-investment period. As the economic feasibility of the mega pipeline system cannot be supported by limited domestic demand, most projects are expected to export oil or gas to neighboring markets. According to Energy Strategy 2020 adopted in 2003, the Russian government promised state support for export pipelines, if these pipelines are built within Russian territory, as mega energy projects are expected to stimulate economic activities in the Eastern regions of Russia where economic development lags behind the rest of the country. Thus Russia and energy-importing countries in Northeast Asian have a common interest to cooperate to develop energy resources in the Eastern regions of Russia. 5. Key Issues for Northeast Asia As Northeast Asia is expected to become further dependent on the Middle East for a long -term supply of oil, the region must have an ample supply capacity for natural gas and coal. The simultaneous realization of energy security, market rationalization, and environmental improvements in Northeast Asia demands the construction of the best mix of energy sources in each country that factor in the situation vis-à-vis the amount of energy reserves, geographical conditions, and stage of economic development. Furthermore, the formation of an analogous best mix in the region as a whole will require extensive utilization of coal and nuclear power alongside natural gas while assuring oil supply stability. 41

42 5.1 Ensuring Energy Security Strong economic growth and progressive motorization are going to expand the demand for energy in Northeast Asia. As noted above, the dependency on the Middle East for supplies of oil should deepen, as regional oil supplies would not be able to keep pace with rapid demand expansion. While it is naturally important for individual countries to make efforts to secure their own energy supplies, there is also a possibility that an excessive pursuit of national interests by any single country could damage the energy security of the region as a whole. Thus it is becoming increasingly important for the issue to be treated as one in which all countries in the region have a common stake. To this end, Northeast Asian countries must cooperate to develop abundant undeveloped energy resources, including oil, natural gas, coal and hydroelectric power in the Eastern regions of Russia. 5.2 Pursuit of Energy Diversification and Best Mix Pursuit of the best energy mix is another agenda item to be confronted by each country according to its circumstances vis-à-vis energy demand, the amount of resource reserves, technology level, and economic merit. However, it is also vital to retain the perspective of optimizing the mix in the region as a whole, based on cooperation between net consumers and net suppliers. The use of natural gas in Northeast Asia is expected to grow in the future, driven by demand for diverse energy sources and environmental improvements. In order to promote this, natural gas must be economically competitive with other energy sources. The Asia-Pacific region has a fully sufficient long-term supply potential for LNG, while LNG importing countries must collaborate in efforts to raise their economic benefits by exercising stronger bargaining power against LNG suppliers. Thus it will be beneficial for Northeast Asian countries to cooperate to develop natural gas resources in the Eastern regions of Russia and have new supply sources of natural gas via cross -border pipelines. Coal has superb economic benefits but also entails a high environmental load, thus its utilization in developed countries could stop growing as a result. In Northeast Asia, there are abundant reserves of coal in countries such as China and Russia, while the region s utilization of coal is expected to grow, particularly in the power sector. This would further raise the importance of environment-friendly utilization harnessing high-efficiency technology. It is vital for Northeast Asia to make better use of its abundant coal deposits based on energy security and economic benefits. In the developed countries of Europe and North America, construction of additional nuclear power plants has essentially been halted, while installed capacity is expected to decline. As a result, Northeast Asia should be the location of almost all additional nuclear power plants. Many Northeast Asian countries have a relatively low level of domestic natural resources, while nuclear power has a major role to play to ensure supply stability and overcome environmental concerns. There is also a need for intraregional cooperation covering operations and management in this area. Thus it is important to have various options for energy supply sources. This would be linked not only to higher levels of energy security but also a stronger position in price negotiations for competing fuels. 42

43 5.3 Improvement of Investment Environment A stable supply of energy is vital for sustainable economic development in Northeast Asia. In addition to securing crude oil, natural gas, coal, and other resources, enormous capital is needed to build infrastructure such as pipelines and transmission lines. Major financing of these mega-projects must rely heavily on both loans and direct investment from foreign private corporations as well as foreign governments, international organs, and other forms of public funding. Thus rules governing taxes, investments, and other systems must be defined in order to encourage development of energy resources and related infrastructure using foreign capital. Moreover, strong support by governments in the form of financial assistance and investment insurance will play a vital role in promoting the participation of private enterprise in energy infrastructure projects. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 5.4 Cooperation for Environmental Improvement As the dominant energy sources will continue to be coal and oil in Northeast Asia in the foreseeable future, various environmental problems including current air pollution and CO2 emission will worsen due to rapid increases in coal and oil consumption. In order to deal with these problems, regional cooperation through technology transfer is extremely valuable and effective, particularly in the areas of energy conservation, clean coal technology and renewable energy development. China and other Northeast Asian countries have immense potential for energy conservation, and offer enormous opportunities for technical assistance through the Clean Development Mechanism (CDM) and other schemes. As Japan ranks at the top worldwide in terms of energy conservation and environmental technologies, regional cooperation can contribute to a winwin situation in Northeast Asia. 43

44

45 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS ENERGY DEMAND PROJECTIONS AND SUPPLY OPTIONS FOR DPRK Keun-Wook Paik Wonhyuk Lim Introduction In this report, we present energy demand projections for DPRK (Democratic People s Republic of Korea or North Korea) by fuel and major economic sector, and also look at its supply options for the short term (2005) and medium-long term (2020). Essential to DPRK s economic rehabilitation, energy assistance is likely to be an integral component of a comprehensive agreement designed to resolve the nuclear problem on the Korean peninsula, and we examine energy supply options for DPRK by combining geopolitical and economic perspectives. This report consists of three parts. In Part one, using various assumptions on DPRK s economic growth and energy supply options, we present energy demand projections for the period up to We consider four economic growth scenarios for DPRK as outlined in the previous section, and present energy demand projections for DPRK by fuel and major economic sector. Building on a previous study by the Korea Energy Economics Institute (KEEI 2003), we adopt various assumptions on DPRK s economic growth and energy supply options and derive corresponding demand projections. 45

46 In Part Two, we look at energy supply options for DPRK. For the short term, we discuss the possibility of transferring energy resources such as heavy fuel oil and LPG (liquefied propane gas). In particular, we look at the option of providing LPG from ROK (Republic of Korea or South Korea) to DPRK. For the mediumlong term, we look at energy infrastructure projects such as electricity interconnection and power generation, coal production, and oil exploration. For electricity, we review the option of building interconnection with Russia as well as constructing power plants within DPRK. For oil, we look at the tantalizing prospects for offshore exploration. In Part Three, we examine in detail the possibility of introducing pipeline natural gas from Russia to the Korean Peninsula. We review the ROK and DPRK positions on trans-national gas pipelines and explore various options by supply source namely, Irkutsk, Sakha, and Sakhalin projects. We emphasize that only with close international cooperation at the governmental level can we expect to make substantive progress on the introduction of pipeline natural gas to the Korean Peninsula. 1. Energy Demand Projections for DPRK In Part One, using various assumptions on DPRK s economic growth and energy supply options, we present energy demand projections for DPRK for the period up to Before making demand projections, we give a brief overview of DPRK s energy consumption trends since 1980 in comparison with ROK s. On per capita terms, DPRK s energy consumption was on a par with ROK s in 1985, but their consumption trends began to diverge sharply in the late 1980s as the collapse of the Socialist Bloc had a devastating effect on the DPRK economy. Yet the fact that the two sides had similar per capita energy consumption levels as late as the mid- 1980s suggests that ROK s energy consumption trend since then might be regarded as a possible benchmark for DPRK s economic recovery scenarios. We then present energy demand projections for DPRK by fuel and major economic sector. We change assumptions on DPRK s economic growth and energy supply options and derive corresponding demand projections DPRK s Energy Consumption Trends As shown in Table 1, on per capita terms, DPRK s primary energy consumption was almost identical to ROK s in Since the collapse of the Socialist Bloc in the late 1980s, however, DPRK s energy consumption has sharply declined due to production bottlenecks and hard-currency problems. In 2002, DPRK s per capita energy consumption was approximately 54 percent of its level in 1985; whereas, ROK s corresponding figure increased more than three-fold over the same period. 46

47 Total Consumption (mtoe) Per Capita Consumption (toe) ROK DPRK ROK DPRK Table 1. Primary Energy Consumption, Source: Korea National Statistical Office ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS DPRK s crude oil imports suffered an even larger decline due to the termination of energy trade on friendly terms with Russia and China (Table 2). The precipitate fall in crude oil imports had serious repercussions for DPRK s industrial production. DPRK s refining capacity has also declined since the late 1980s due to lack of investment. Crude Oil Imports Refining Capacity Imports (MBbl) Imports per Capita (Bbl) (BPSD/100 Persons) ROK DPRK ROK DPRK ROK DPRK Table 2. Crude Oil Imports and Refining Capacity, Source: Korea National Statistical Office By contrast, DPRK s electrical power generation capacity has continued to increase over the past two decades, especially in the hydro power sector. As shown in Table 3, however, gross production has declined over the same period due to reduced capacity utilization. 47

48 Gross Capacity and Composition by Energy Source Year Gross Capacity (kw) Hydro (%) Thermal (%) Nuclear (%) Gross Production (TWh) ROK DPRK ROK DPRK ROK DPRK ROK DPRK ROK DPRK ,391 5, ,136 5, ,021 7, ,184 7, ,451 7, ,801 7, Table 3. Electrical Power Generation Capacity and Production, Source: Korea National Statistical Office 1.2 DPRK s Energy Demand Projections In 2003, the Korea Energy Economics Institute (KEEI) made a projection on DPRK s energy demand until 2020 (the initial study was done in 2002). As the four scenarios developed for the KEEI s projection are similar to those in our study, the KEEI s study is applicable to our work. The basic assumptions of KEEI s projection are as follows. The study projects the population of DPRK in 2020 to be roughly 26.2 million Annual growth rate (%) Population (million) Table 4. DPRK s Population Projection Source: KEEI (2003) The KEEI study introduces four different economic scenarios for DPRK: Quick Transition, Painful Adjustment, Sheltered Transition, and Bulgarian Model, depending on the extent of extent of liberalization undertaken on the one hand and the amount of resource transfers from the outside. Qualitatively, these scenarios are similar to ours, ranging from Low Growth to High Growth 1. 48

49 High Growth (HG) EGR (%) GNI (bn won) GNI per head * Medium High Growth (MHG) EGR (%) GNI (bn won) GNI per head Medium Low Growth (MLG) EGR (%) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS GNI (bn won) GNI per head Low Growth (LG) EGR (%) GNI (bn won) Table 5. DPRK Economic Growth projection: based on growth strategy Note: EGR means Economic Growth Rate, GNI means Gross National Income. *GNI s base year is 1995, and the unit of GNI per head is 10,000 Korean won. Source: KEEI (2003) GNI per head There is, however, one major difference: The KEEI study assumes that DPRK s economic growth under Painful Adjustment (combining a high level of liberalization with a low level of resource transfers) will be higher than economic growth under Sheltered Transition (combining a low level of liberalization with a high level of resource transfers); whereas, we assume exactly the opposite because we believe that without a high level of external cooperation, DPRK s economic growth, even with a high level of reform, will be limited due to the lack of domestic resources. Even if DPRK takes substantive economic opening measures as part of its liberalization program, capital inflows will be limited as long as DPRK is regarded as a rogue state. As a result, as far as growth rates are concerned, Painful Adjustment corresponds to Medium Low Growth in our study; whereas, Sheltered Transition corresponds to Medium High Growth. In both qualitative and quantitative dimensions, there is basically no difference between Quick Transition and High Growth; and between Bul garian Model and Low Growth. Table 5 shows the assumptions of economic growth rate, Gross National Income (GNI), and the GNI per head in each scenario. Another important assumption in the KEEI study is that the KEDO light-water reactor project and a gas pipeline passing through DPRK will be completed before 2010, allowing DPRK to have access to nuclear power and natural gas for the first time. In other words, we assume that there will be a diplomatic breakthrough over the nuclear issue in the next few years. (The assumed operation rate of KEDO plant is 75%). 49

50 Energy/GNI (toe/million won) HG MHG MLG LG Energy per head (toe/person) HG MHG MLG LG Energy Self-Reliance rate (%) HG MHG MLG LG Coal Dependency (%) HG MHG MLG LG Oil Dependency (%) HG MHG MLG LG Table 6. Major Energy Index Projection: based on the Growth Strategy Source: KEEI (2003) 50

51 Coal HG MHG MLG LG Oil HG MHG MLG ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS LG Natural Gas HG MHG MLG LG Hydro HG MHG MLG LG Nuclear HG MHG MLG LG Others HG MHG MLG LG Total HG MHG MLG LG Table 7. DPRK Primary Energy Demand Projection: based on the Growth Strategy Source: KEEI (2003) (Unit: 1,000 TOE & %) 51

52 Coal HG MHG MLG LG Oil HG MHG MLG LG Natural Gas HG MHG MLG LG Electricity HG MHG MLG LG Others HG MHG MLG LG Total HG MHG MLG LG Table 8. DPRK Final Energy Demand Projection: based on the Growth Strategy (Unit: 1,000 TOE & %) Source: KEEI (2003) 52

53 Commercial Sector HG MHG MLG LG Transportation Sector HG MHG MLG LG ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Residential Sector HG MHG MLG LG Other Sector HG MHG MLG LG Total HG MHG MLG LG Table 9. DPRK Final Energy Demand Projection: by sector based on the Growth Strategy (Unit: 1,000 TOE & %) Source: KEEI (2003) Consumption increases for each of the major fuel types. As the production of coal and hydro power suffers diminishing returns, however, the share of oil in primary energy consumption is projected to increase over time. Under the four scenarios, the share of coal in energy consumption declines sharply from over 70% percent in 2005 to 41 48% percent in 2020; whereas, the share of oil rises from 7.7 percent to percent over the same period. As for DPRK s final energy consumption, it is projected to increase at an average annual rate of 11.1 percent over the period under the High Growth scenario. As shown in Table 8, oil consumption increases with a rate of 13.7 percent per annum under the Low Growth scenario. In the case of High Growth scenario, the figure would be over 22 percent. 53

54 Table 9 shows DPRK s projected final energy consumption by sector. Energy consumption in the transportation sector is likely to rise fastest as DPRK s dilapidated transportation infrastructure is rehabilitated. 2. DPRK s Energy Supply Options In Part Two, we look at DPRK s energy supply options for the short term (2005) and medium-long term (2020). Short-term solutions to DPRK s energy problems typically involve transfers of energy resources without major investment in infrastructure, such as heavy fuel oil supplies. Longer-term solutions such as gas pipeline construction require large-scale investment and co-ordinated preparation Short-Term Energy Supply Options OIL Supplying oil might be the simplest quick-fix for DPRK s energy problems. The arrangement to supply 0.5 mt/y of heavy fuel oil to DPRK under the Geneva Agreed Framework of 1994 might indeed have been based on this premise. Although a fundamental solution to DPRK s energy problems requires the modernization of the energy sector if not the economy as a whole, supplying oil to DPRK is likely to be an essential interim measure in any diplomatic settlement on the nuclear issue. Year Total Supply Total Cost US share Total Table 10. Provision of Heavy Oil to DPRK (Unit: mt & US$ million) Source: Choong-Young Ahn and Chang-Jae Lee, Northeast Asia Economic Cooperation: The first Step towards Unification (Seoul: Pakyoungsa, 2003), p

55 Until the beginning of the 1990s, DPRK managed to obtain 2.5 mt/y of crude oil from FSU and China, but the figure decreased to well below 1 mt/y during the second half of 1990s, mainly because Russia under the non-communist leadership completely suspended crude oil exports and China reduced its oil exports by two-thirds. Table 11 indirectly confirms that the 0.5 mt/y of heavy fuel oil provided by the United States as a part of the 1994 Agreement is a very significant volume for DPRK economy. KEEI Bank of Korea KPAJ ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Table 11. DPRK s Crude oil import (Unit: mt) Note: Like the figure in Table 2, the crude oil import in this Table seems excluding the US supply volume of 0.5 mt/y. Source: KEEI (2002), Bank of Korea (2002) & The Korea Petroleum Association Journal, Sep/Oct 2003, p. 85. DPRK authority tried to find an alternative to make up the loss of the suspended heavy oil supply by the United States. According to the Ministry of Unification, DPRK has imported a total of 0.31 mt of crude oil from China during the first half of In terms of money value, it is worth around US$ 70 million. It is worth noting that roughly 83% (US$ 58 million) of the crude oil was delivered to DPRK after Chairman Jong-Il Kim s visit to China in April It indirectly confirms that the main purpose of Chairman Kim s China visit was to secure the energy supply source 2. DPRK s oil refining capacity is very limited. There are only two major refiners in DPRK, and due to lack of investment, their combined capacity has declined since the late 1980s. Crude oil for Seung-ri Chemical Plant 55

56 comes from Russia s Nakhodka port, and Crude oil for Bongwha Chemical Plant comes from China through DPRK China Friendship Crude Oil Pipeline. Seungli Chemical Plant Bongwha Chemical Plant Refining Capacity 2 mt/y (41,000 b/d) 1.5 mt/y (31,000 b/d) Construction Period Sep 1973, 1.0 mt/y capacity Sep 1979, 1.0 mt/y capacity completed and operated completed and operated Feb 1977, 1.0 mt/y capacity completed and operated 1979, 0.5 mt/y expansion made Cooperation partner Russia China Table 12. DPRK Oil Refining Capacity Source: KEEI (2002) In the 1990s, DPRK made some efforts to attract foreign direct investment in the oil refinery sector. The Stanton Group said that it received special permission from the Department of Treasury for investment in North Korea, and in September 1996 the firm invested US$ 13 million to establish a JV named the North Korea Equipment Stanton Development Company, with the Seung-Ri Chemical Company to produce light oil products, such as gasoline and diesel and some heavy oil needed by KEDO. In August 1998, the Stanton Group announced that a joint venture oil refinery was in operation and that it planned to invest about US$ 1 billion in the future to expand the oil refinery by two or three times 3. In 2003 DPRK authority merged the organisations handling oil import, refining, trading and exploration, and the merged organisation became Korea Oil United General Corp (KOUGC) LPG Supplying LPG may be another relatively simple short-term solution to DPRK s energy problems. LPG does not require large-scale investment. Also, its use is largely limited to cooking and heating, with virtually no military conversion risks. In December 2002, Jeong-Wan Kim of Korea Energy Economics Institute published a study on DPRK s LPG demand projection and LPG cooperation between DPRK and ROK. As shown in Table 13, the projected LPG demand in DPRK in 2020 is mt in the baseline case. Under this scenario, the annual growth rate is 9.8% during

57 Residential Cooking Residential Heating Commercial sector Residential others Industrial sector Transportation sector Propane Total Residential & Commercial Industrial Sector Transportation Sector Butane Total LPG Total ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Table 13. Projection on DPRK LPG Demand: base case (Unit: 1,000 tonnes) Source: Jung-Wan Kim, Study on DPRK s LPG Demand Projection and LPG Coperation between DPRK and ROK, KEEI (2002) Residential Cooking Residential Heating Commercial sector Residential others Industrial sector Transportation sector Propane Total Residential & Commercial Industrial Sector Transportation Sector Butane Total LPG Total ,260.0 Table 14. Projection on DPRK LPG Demand: high growth case (Unit: 1,000 tonnes) Source: Jung-Wan Kim, Study on DPRK s LPG Demand Projection and LPG Coperation between DPRK and ROK, KEEI (2002). 57

58 Residential Cooking Residential Heating Commercial sector Residential others Industrial sector Transportation sector Propane Total Residential & Commercial Industrial Sector Transportation Sector Butane Total LPG Total Table 15. Projection on DPRK LPG Demand: low growth case (Unit: 1,000 tonnes) Source: Jung-Wan Kim, Study on DPRK s LPG Demand Projection and LPG Coperation between DPRK and ROK, KEEI (2002) Low Growth Case Base case High Growth Case ,557 1,686 2, ,848 2,690 3,583 Annual growth rate 5.8% 9.8% 13.6% Table 16. The Income Level for the three Scenarios (Unit: US$) Source: Jung-Wan Kim, Study on DPRK s LPG Demand Projection and LPG Coperation between DPRK and ROK, KEEI (2002) It is worth noting that the figures of DPRK s LPG demand projection based on specialist s view is much lower than the figures in Tables 13 15, which are based on DPRK s economic growth. The base case figure is mt, and that of high growth rate and low growth rate is mt and mt respectively. This study suggested that it would be ideal to start to supply LPG to DPRK s special economic zones, like Kaeseong, Rajin-Seonbong, Shinuiju and Mt. Keumgang special zone, and then expand the market gradually. 58

59 Kaesung Shinuiju Mt. Keumgang Rajin/Seonbong Area (sq. km) Around Designated time Nov 2002 Sep 2002 Nov 2002 Dec 1991 Concept / Purpose Industrial Industrial Tourism zone Industrial development development development Autonomy level Local supervision Legislative, administrative Local supervision Local supervision & management & judicial autonomy & management & management Land lease period 50 years 50 years N/A N/A Accepted Currency Major foreign Major foreign Major foreign North Korean currencies currencies currencies won only ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Corporate 14% (high potential TBA None 14% income tax sectors, 10) Visa Requirements No visa Visa required No visa No visa Table 17. DPRK Special Economic Zone Note: High-potential sectors refer to infrastructure construction, light industry and avanced technology. Source: KT & I (Sep Oct 2003), p. 30. In April 2004, reportedly, South Korea s LPG Industry decided to supply LPG to the Kaesung Industrial Complex. The detailed plan is not ready yet, the project could handle a supply of 250 tonne of LPG per day or 6,500 tonnes of LPG per month, and envisages tonnes storage within Kaesung Industrial Complex. The LPG Industry projects that the LPG sales scale will be initially 200 tonnes per month, but the figure will be 1,000 tonnes per month once the project is on the right track, and in 2006 the scale will reach to 4,000 6,000 tonnes per month Longer-Term Solutions ELECTRICITY INTERCONNECTION AND GENERATION Electricity Interconnection During the Cold War period, DPRK s power industry received a substantial amount of energy assis tance from the Soviet Union and China. In the electricity sector, the Soviets made a significant contribution to DPRK s thermal power generation while China provided support in hydro-electric generation through joint projects. After the Cold War came to an end, however, DPRK s relations with Russia rapidly deteriorated. However, in recent years, both sides have been trying to improve relations. Since 2000, President Putin has met Chairman Kim Jong-Il three times. The two leaders discussed power sector cooperation at each of these meet- 59

60 ings. In July 2000, when President Putin visited Pyongyang, DPRK-Russia Economic Cooperation Co-operation Committee discussed about energy cooperation. In September 2000, Power & Coal Industry Minister Tae- Rok Shin visited Russia and discussed the related projects. In August 2001 when Chairman Kim Jong-Il visited Russia, both countries adopted a Moscow Declaration containing the refurbishment of DPRK s thermal power plants and officially announced the power sector co-operation between the two countries. In August 2002, the third summit between Chairman Kim Jong-Il and President Putin was held in Vladivostok. Chairman Kim asked Russia to supply electricity in this meeting. Both leaders also discussed the issue of nuclear power plant development in the border area of DRPK and Russia and the joint use of the electricity. In parallel with the summit meetings between the two leaders, a number of working level meetings between the two countries have been held. In October 2001 a memorandum between Vostokenergo and DPRK s delegation led by Power and Coal Industry s deputy minister Nam-Chil Park in Khabarovsk after the discussion of Russia s electricity supply to DPRK based on available electricity (2 4%) from Primorskii Krai. Both parties also agreed to have the second DPRK-Russia working level meeting in Vladivostok to discuss the practical and technical issues, like the development of transmission line between Khasan and DPRK together with voltage conversion facility construction, and the electricity supply volume and price. In February 2002, Chairman Kim Jong-Il asked Russia s electricity supply to DPRK during his meeting with Russian Ambassador and then RFE region s presidential representative (plenipotentiary) Constantin Fulikovsky visited DPRK and discussed the ways of supplying electricity to DPRK. What followed was Power and Coal Industry Minister Tae-Rok Shin met Vostokenergo director general Victor Minakov s deputy to discuss about the ways of signing the electricity supply agreement.(in April 2002, Minister Tae-Rok Shin was replaced by Kwang-Hong Oh). In April 2002, DPRK Cabinet Deputy Premier Chang-Deok Cho visited Russia and proposed the exchange of 400 MW scale electricity exchange and in return joint logging and construction manpower provision, and discussed a power transmission line project linking southern Primorskii region with DRPK. In September 2002, a memorandum among ACE Engineering Inc (S. Korea), Korea National Energy Committee (DPRK), and Vostokenergo and Energy System Institute (Russia) was signed for the preliminary FS on Northeast Asian region s Electric Power Interconnection. The concept of electricity supply from Primorskii Krai to DPRK was clearly presented by Victor Kalashnikov, Khabarovsk based Economic Research Institute during the International Workshop on Upgrading and Integration of Energy Systems in the Korean Peninsula: Energy Scenarios for the DPR of Korea, held in Como, Italy, Sep 19 21, A major DPRK delegation led by Prof. Kyong Bong Kim joined in this workshop. The basic concept is Russia DPRK Interconnection line Development Section: Vladivostok Khasan Chongjin Transmission line capacity: AC 500 KV Length: 375 km Power Generation Installation Capacity: 500 MW & 3.0 billion KWh Capital Cost: US$ million Capital Cost: US$ million 60

61 Besides this pilot project, there is also a relatively big project (the so-called Podkovalnikov commissioned study which covers the inter-connection of Amur & Khabarovsk Primorskii DPRK and ROK). Electricity Generation Based on 1994 Oct Geneva Agreement, DPRK was supposed to receive 0.5 mt/y of heavy fuel oil until the completion of KEDO project. Consequently operation of Seonbong Thermal Power Plant was possible due to the heavy oil supply. During the 1990s, the level of this power plant s operation rate was only 30%. Currently the power generation volume from this power plant stands at 1,700 GWh and it represents less than 10% of DPRK s total power generation volume. Recently DPRK began focusing on building a limited number of small and medium-sized power plants with improved average power generating capacity. The North Korean Central Broadcasting Agency announced that DPRK has initiated the construction of 250 small and middle-sized power plants all across the country and 40 of which are already completed. DPRK has also built seven wind power generators with the help of the Nautilus Institute in the United States. The generators are reported to be in operation, but their generating capacity is only 9 KW per unit 5. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS According to the Ministry of Electricity and Coal Industry, DPRK authority is planning to complete a 600 MW hydro plant which is under construction and the project would require a 20 units of 50 MW, 40 MW, 20 MW and 5MW capacity hydro generating equipment 6. 61

62 Plant name Province Capacity(MW) Remarks Eastern region Sodusoo River North Hamkyung 510 a valley-remodelling type Hochon River South Hamkyung 394 the same Jangjin River South Hamkyung 381 the same Bujon River South Hamkyung 262 the same Anbyon Youth Kangwon 100 a dam type Western region Soopung North Pyongan 700 the same Taechon* North Pyongan 400 a valley-remodelling type & a dam type Taepyong Bay North Pyongan 190 a dam type Daedong River South Pyongan 200 the same Woonbong Jagang 400 the same Wiwon Jagang 390 the same Kanggye Youth Jagang 246 a valley-remodelling type Jangja River Jagang 90 a dam type Total 4,263 Table 18. DPRK s Hydro Power Plants Note: * The Taecheon plant is one of the four Nature Improvement projects proposed at the fourth plenary session by the sixth Central Committee of the Korea Workers Party and it is currently in the first stage of construction. ** The Mountain Geumgang power plant in Tongcheon which is not listed in this table is estimated to have about 800 MW generation capacity, and it became the largest hydro power plant in DPRK after the completion of the construction at the end of Source: Korea Trade Investment Promotion Agency, North Korea Business Fact book (Seoul: KOTRA, 2001), p. 75. Plant name Province Capacity(MW) Remarks Eastern region Seonbong 7 North Hamkyung 200 Chongjin North Hamkyung 150 Western region Bukchang 8 South Pyongan 1,690 a condensated water type Soonchon South Pyongan 200 a combined heat type Pyongyang Pyongyang 500 the same Chongchun River South Pyongyang 200 the same East Pyongyang Pyongyang 50 the same December Nampo 50 the same Total 3,040 Table 19. DPRK s Thermal Power Plant Source: Korea Trade Investment Promotion Agency, North Korea Business Factbook (Seoul: KOTRA, 2001), p

63 1,600 MW plant Boiler from 16 units of 320 t/h to 6 units of 630 t/h. Generator from 16 units of 100 MW to 4 units of 200 MW 500 MW plant Boiler from 12 units of 210 t/h to 6 units of 420 t/h. Generator from 8 units of 50 MW to 4 units of 100 MW 50 MW Boiler from 3 units of 210 t/h to 4 units of 210 t/h Generator Table 20. Modernization of Existing Thermal Power Plants from 2 units of 50 MW to 3 units of 50 MW Source: Sung-Gwan Kim, On the Direction for Rehabilitation and Modernization of the Existing Generation Capacity, presented at an international workshop on Upgrading and Integration of Energy Systems in the Korean Peninsula: Energy Scenarios for the DPRK of Korea, organised by Italian Ministry of Foreign Affairs, Landau Network-Centro Volta, World Information Service on Energy, and Fondazione Opera Campana dei Caduti, Como, September 19 21, 2002 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS According to Leguen Consulting (president: Jean-Pierre Le Guen) s study on DPRK s Energy Plan, the possibility of hydro power usage stands at 45% and that of thermal power stands at 40%. (According to Korea Institute for International Economic Policy s North Korea Development Report 2002/03, the actual operating rate of North Korea s hydro-electric power plants is at about 20 percent due to outdated power facilities and frequent breakdowns.) The study also pointed out that the daily need of power to avoid permanent electrical black-out is 900 MW. Plant name Province Capacity(MW) Type Soopung North Pyongan 320 Hydro Daedong South Pyongan 90 Hydro Nampo South Pyongyang 800 Tidal Seonbong North Hamkyong 250 Natural Gas Kimchaek North Hamkyong 250 Natural Gas Kimchaek 2 North Hamkyong 350 Coal Pyongyang 6 Pyongyang 525 Coal Pyongyang 2 Pyongyang 175 Coal South Pyongyang 900 Nuclear (KEDO) North Pyongyang 800 Tidal or Natural Gas Table 21. Projected Power Plants in DPRK until 2015 Source: Jean-Pierre A. Le Guen, DPRK Energy Plan: from 2000 to 2020, presented at a Multilateral Forum on Economic Development of DPR Korea and the Future of Co-operation with Erope, oganised by Landau Network-Centro (Como) and the Association fort he Promotion of the International Economic and Technical Exchange (APIETE), DPRK, held in Rome, Oct 20 21,

64 2.2.2 LNG SUPPLY In August 2001, the Chosun Ilbo reported that Kogas had been lobbying to supply a 18,000 tonnes of natural gas (5.9 billion Korean won or US$ 4.6 million) to North Korea from the beginning of 2003 and gradually increasing the supply up to 0.71 mt, worth 210 billion Korean won or US$ million until Kogas has undertaken a feasibility study on supplying natural gas to an industrial complex in Kaesong, a famous DPRK city adjacent to the 155 mile demilitarised zone (DMZ). The pipeline development cost would be around billion Korean won and Kogas suggested part of the fund could come from the Inter-Korean Cooperation Fund. According to the FS, the most ideal supply network will be a pipeline connecting the Grand Unification Bridge in the South with the Kaesong Industrial Complex across the DMZ. The two Koreas have been promoting the construction of a large scale industrial estate in an area contiguous to Kaesong in their joint efforts to expand inter-korean economic co-operation. Chosun reported that in July 2001 the Ministry of Unification has given a green light to Kogas to contact DPRK. In the same month MOCIE minister Jae-Shik Chang said that the Government would be able to review the supply of electricity to North Korea if the North is positive about inter-korean economic cooperation. But the minister s remarks invited a strong opposition from the Opposition Party (GNP) and the United States. However, the Ministry of Commerce, Industry and Energy (MOCIE) said that it has never reviewed the option of supplying natural gas to the Kaesong Industrial Complex, and Kogas FS work will not necessarily be accepted as the government s policy. The Kogas FS work was done by a local engineering firm. In beginning of 2003 when the concept of Sakhalin gas supply to the Korean Peninsula was covered by the Korean media, both Kogas and Ministry of Commerce, Industry and Energy (MOCIE) floated the concept of LNG supply to DPRK. Both argued that the pipeline passing through DPRK territory is not acceptable due to the energy supply security. During the 8 th International Conference on Northeast Asian Natural Gas and Pipeline: Multilateral Cooperation, Prof. Tussing gave a brief presentation on natural gas supply from South Korea to DPRK. The main concept is that to construct a 200 km pipeline from Seoul Metropolitan area and a 400 MW gas fired power plant. He argued that the pipeline passing through DPRK territory will take over ten years, 9 this LNG supply to Pyongyang would be a short term (2 3 years) solution. Clearly this is an option favoured by the South not by North COAL DEVELOPMENT (*This section is a supplementary one for Prof. Nay Htun s paper) Coal is a main energy source in DPRK and its prominent role in energy supply is unlikely to change in the foreseeable future. In DPRK, there are quite significant coal reserves but the quality of coal is not so high. This is the reason why less than 40% of coal production is allocated for power generation and steel sector. 64

65 Mine name Coal type Reserves(billion tonnes) Pyongnam North Mine Anthracite Coal 3.67 Pyongnam South Mine Anthracite Coal 1.26 Gowon Mine Anthracite Coal 0.32 Others Anthracite Coal 6.49 Sub-Total Hambook North Mine Bituminous Coal (Brown Coal or Soft Coal) 1.91 Hamnam South Mine Bituminous Coal (Brown Coal or Soft Coal) 0.57 Others Bituminous Coal (Brown Coal or Soft Coal) 0.52 Sub-Total 3.00 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Total Table 22. DPRK s Major Coal Mine s Reserves Source: Ministry of Unification, quoted by a KEEI study (1999) Majority of anthracite coal areas are overlapping with those of Bituminous coal. In DRPK there are over 100 centrally controlled mines, of which 70 mines are anthracite mines and the rest 30 mines are bituminous mines. Besides this, there are regional based 500 minor mines in DPRK. Currently domestic coal accounts for almost 90% of the fuel for industry, 45% of energy for power generation, 80% of the energy for household usage. (The share of coal in energy consumption: electricity generation 39%, household 15%, railway 2%, metallurgy 8%, industry 33%, and other 3%) 10. DPRK ROK Coal Type Anthracite Brown Coal(Bituminous Coal) Anthracite Reserves (bn t) Calorie (kcal/kg) 5,260 7,800 3,480 6,000 3,000 7,000 Average: 6,150 Average: 4,200 Average: 4,567 Lime ratio (%) Vaporization (%) Table 23. DPRK Coal Quality (Unit: mt & %) Source: WEC Survey of Energy Resources (1995), quoted by a KEEI study (1999) 65

66 According to Interfax China Energy Report, 11 The Baoshan Iron and Steel Co Ltd, the listed arm of China s largest steel producer, Shanghai Baosteel Group Corp, imported 12,000 tonnes of anthracite coal from DPRK. Ren Yong, a senior official of the firm s Sales Department confirmed that the anthracite will be used to fuel the company s private power plant to ensure our normal steel production. The official added that Due to the increasing strains on domestic coal supplies, Boshan Iron and Steel Co. and Baosteel have been seeking other sources to widen its raw material supply channels in recent years. The official also noted that the company purchased coal as fuel for its private power plant from domestic suppliers, primarily from China s largest coal production base, northern Shanxi province, but this is the first time Baosteel has imported power coal. This interesting news confirms that more DPRK coal can be used for gas-for-power plants if a timely investment is made to DPRK s coal-for-power plant refurbishment or new construction in DPRK. Power Sector Industry (Steel)Sector Others & Public Welfare Total Table 24. DPRK s Coal Consumption, by Sector (Unit: mtoe) Note: As of 2000, South Korea imports a 59.6 mt (US$ 2.03 billion worth) of Bituminous Coal, of which 40.0 mt for steam (US$ 1.2 billion) and 19.6 mt for Iron & Steel (US$ 0.83 billion). Source: IEA Energy Statistics and Balances of Non-OECD Countries, 1997, quoted by a KEEI study. 66

67 Production (mt) Ratio in primary energy(%) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Table 25. DPRK s Coal Production Trend Source: National Statistical Office, Korea (2001 Dec) & Bank of Korea (2002) Table 25 shows that DPRK s coal production recorded 37.5 mt in 1985 but the production declined to as low as 18.6 mt in 1998, even though the figure rose to 23.1 mt in The production level could significantly increase if a new investment is made INDIGENOUS OIL SUPPLY In September 2001, it was reported that Sovereign Ventures Pte. Ltd. (SVPL), Singapore, was seeking experienced partners to explore and develop the first onshore oil and natural gas concession in DPRK to be granted to a foreign company. 12 The concession was awarded by KOEC (Korean Oil Exploration Co) 13 and it covers some 6,000 sq. miles or about 5% of North Korea s landmass. Known as PSCA Techon-Rajin, it is on the Chinese border across the Tumen River in the north-eastern part of the Korean Peninsula and southwest of Vladivostok, Russia. According to Ben Tan, executive vice president of SVPL which was formed in 1993 as the upstream subsidiary of the Korasia group, 14 the concession provide for an initial three year testing period for geophysical 67

68 exploration, a two year exploration drilling stage and if successful, 20 years for development and production. No corporate tax will be applicable during the first 5 years of operations. During the following 2 years, company profits are to be taxed at 5%, escalating to 10% after that. Extensions of the concession agreement can be negotiated on mutually agreeable terms. SVPL aims at investing at least US$ 10 million in the total project, including at least US$ 2 million in the seismic testing and exploratory drilling stages. SVPL estimates that the concession area s recoverable reserves are well in excess of 150 million barrels of oil or its equivalent to gas. SVPL anticipates a 30% success rate in exploration drilling and up to 70% success with development drilling. 15 The SVPL s onshore venture confirms DPRK authority is very serious about oil and gas exploration business. DRPK authority s activities on both onshore and offshore E&P business are rarely introduced to the western world comprehensively, even though a few articles have covered the topic occasionally. DPRK authority has a high expectation on its offshore exploration but only a superficial work has been done to understand the true scale of the potential oil and gas resources in DPRK offshore. Brief Review on Exploration Activities in DPRK offshore Since the 1960s North Korea has made serious effort to be an oil producer. The preparation is divided into four stages: i) 1960 s preparation for exploration In 1965, North Korea established Administration Bureau of Fuel Resources Geological Exploration (?), and in 1968 an institute specialised in oil exploration was set up in Sook-Cheon County. The first extensive geophysical exploration was done jointly with China during In 1967, North Korea conducted a joint geological study with the FSU in the Tumen estuary. On top of this, North Korean scientists conducted their own geophysical studies along the coastal seabed of the East and West Seas. ii) 1970 s Foreign technology importation In 1976 North Korea sent a delegation to FSU Caspian Sea s offshore field to study the offshore exploration method and imported. In 1977 North Korea signed a protocol with Asia Exploration Consultants (AEC) of Singapore regarding oil exploration and development, but this never went beyond the protocol stage. In September 1979 seismic work was first undertaken and a jack-up named Enda Star was used to drill a well near the Chinese claimed boundary, beginning in September (This activity was halted in January 1981) 16 In 1980 Norwegian subsidiary of Geco Geophysical Ltd, part of Schlumberger was contracted to survey Blocks 1, 2 and 3. 68

69 iii) 1980 s exploration work implementation In 1981, a 2,000 km marine seismic survey was begun in the central portion of Korea Bay by Geco technicians and equipment on a 15,000 sq. km seismic option granted in 1979 to INAP et al., Yugoslavia s national company. China has also carried out a seismic survey of the western Korea Bay, including parts of the boundary. Two western-designed jack-ups drilled close to the border in Some minor oil and gas discoveries were apparently made in the same region earlier, and the structures continue across the boundary into North Korean jurisdiction. This was why China was interested in assisting North Korean in its exploration efforts. However, both sides left the demarcation issue unsettled, and there have been no reports of Chinese participation in North Korea s offshore exploration and development since the second half of the 1980s. (The boundary issue will be discussed later) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS In October 1983, Crude Oil Exploration Bureau was established under the Cabinet. And North Korea secured an exploration drilling ship (14,000 tonnes level) from Singapore and initiated the exploration work in Nampo offshore. In 1986, North Korea signed agreement with FSU on North Korea-FSU economic zone and continental shelf boundary and decided to develop the continental shelf jointly. Both Far Eastern Division of FSU Academy of Sciences and Pyungsung division of North Korea s Academy of Sciences undertook a study on North Korea s coastal area s geological structure and the untapped resources, and found signs of oil from Heungnam offshore. But no further progress was made. In 1987 Leeward petroleum (UK) was contracted for exploration projects. Reportedly North Korea discovered 425 b/d of crude oil in Zone C in the Yellow Sea at the end of 1988 with the help of an Australian company, Meridian Oil NL, 17 which made a contract with North Korea covering the western Korea Bay on July 31, It was also reported that North Korea confirmed gas reserves in the Heungnam area. iv) 1990 s: foreign investment attraction 18 In 1993, North Korea upgraded Crude Oil Exploration Bureau as Ministry of Crude Oil Industry, 19 and then during April 1994 Supreme People s Assembly adopted a resolution that To increase the investment on the crude oil industry for upgrading the industry related equipment and concentrating on exploration of the promising areas and finding more crude oil reserves bases. 20 iv i. Meridian Oil / Beach Petroleum The first western company obtained exploration license in DPRK was Meridian Oil NL of Australia in Meridian was formerly part of the Independent Resources Ltd (ILR) group, which acquired control of Beach Petroleum NL, Adelaide, and its then parent company, Claremont Petroleum NL. 69

70 70 Until the late 1980 s Claremont owned part of the interests in the West Korea Baty held by Meridian. In 1994, Beach Petroleum s new management accepted an offer to acquire permits to explore the two other concessions. These were located above the old Meridian blocks, now let to Taurus Petroleum AB, Stockholm, and the whole East Sea side. Beach Petroleum decided to take the option on the east side, covering approximately 29,000 sq. km. Beach Petroleum signed a 25 year Production Sharing Agreement (PSA) with ZosonSulbi (translated as N. Korea Equipment), a state trading firm that acts on behalf of the Ministry of Energy. The contract is composed of a 5 year exploration period and a 20 year production period. No taxes or signature bonuses are payable, with the exception of a production payment bonus that becomes payable if a certain level of production is reached. Beach Petroleum s PSA with North Korea was similar to that of Meridian, with the share determined on a sliding scale based on total output from the concession. In 1997 Beach Petroleum farmed out a 25% interest to a Malaysian company, Puspita Emas Sdn. Bhd, in return for financing the costs of shooting 1,000 km of additional seismic in July The firm also reprocessed 7,000 line km of seismic shot during the Soviet period and evaluated data from the two wells drilled (The two wells confirmed oil shows). After all, Beach Petroleum has identified eight prospects and nine leads. These include buried hill structures, with the potential up to barrels. Beach Petroleum s studies tell that the onset of oil generation is likely to occur in the Lower and Middle Miocene sediments at subsurface depths of below 2,100 metres. iv ii. Taurus Petroleum AB Meridian Oil s seismic data was sent to a processing center in London but North Korea failed to pay the processing. As a result, N. Korea failed to get the data back. North Korea re-advertised the concession. According to Petroleum Intelligence Weekly (April 6, 1992), a half dozen European and Australian companies were invited to examine prospects after North Korea s Ministry of National Resources Development drafted framework laws governing production sharing contracts. Taurus Petroleum AB decided to take the permits in 1992, without knowing Meridian s earlier activity. In February 1993 Taurus Petroleum AB signed a PSA with ZosonSulbi. The agreement provides for a 5 year exploration period, extendable by a further 3 years on payment of US$ 1 million. The agreement provides for North Korea to secure a rising share of production in proportion to the level of output, starting at 55% of production. Like Meridian Oil, no taxes or signature bonuses are payable and Taurus Petroleum has 100% ownership rights. The exploration phase is divided into four periods. The first period (2 years extendable to December 1998) requires reprocessing and interpretation of the earlier seismic shot by Geco, together with acquisi-

71 tion and processing of new seismic carried out in Under the PSA, the firm must drill one well in the second period of the exploration phase at an approximate cost of US$ 7 million and then one more well in each of the two succeeding years. iv iii. SOCO International In May 1998, SOCO International plc, a London based exploration and production company spun off from Snyder Oil Corp of Fort Worth, Texas decided to take the third concession. THE PSA covers an exploration area of 7,000 km, two thirds offshore and one third onshore in the Anju and Onshon basins. Like the other concessions, the area had already had some drilling and seismic shot. SOCO International planned to shoot additional seismic at the end of ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Soco International has begun drilling onshore. The local Korean contractor was responsible for the drilling, using a Romanian-made rig. By the end of summer 1998, the firm had drilled through 3,000 metres with the eventual goal to reach 4,300 metres. The terms of PSA Soco International has signed was to spend US$ 350,000 for 5 years. It was a minimum fee the firm has to pay to see whether further investigation is warranted. Characteristics of DPRK Offshore Geology On October 7 th, 1997, a seminar titled Explanatory Meeting for Hydrocarbon Exploration Opportunities Offshore DPR Korea was organised by North Korean and Japanese promoters in Tokyo. 21 Dr. Dong R. Choi, a Korean geologist, based in Australia and a technical adviser for Petrex Co. Ltd., Tokyo, presented a summary of the massive survey logs on North Korea s oil formations. In this seminar, the characteristics of North Korea s offshore geology were summarised as follows: West Korea Bay (exploration area: 18,600 sq. km) The basement made of thick carbonate rocks (5,000 metres) of the Late Proterozoic and Early Paleozoic is overlain by the Mesozoic (6,000 10,000 metres) and Cenozoic (4,000 5,000 metres) sediments. Source rocks are the Jurassic black shale (3,000 metres or more), Cretaceous black shale (1,000 2,000 metres), and pre-mesozoic carbonates (several thousand metres) as well. Reservoir rocks are the Mesozoic Cenozoic sandstone with high porosity and pre-mesozoic fractured carbonate rocks. Petroleum traps are anticline, fault-sealed, buried hills and stratigraphic types. Existing exploration data: 4,500 km of integrated geophysical surveys with grid of 2 4 km. Seven wells have been drilled, recovering oil and gas from several wells and hydrocarbon shows from all of the wells

72 Korea East Sea (exploration are: 30,000 sq. km) Pre-Mesozoic gneiss and carbonate rocks are overlain by the Mesozoic and Cenozoic sediments, 6,000 7,000 metres in thickness. A source rock is the Tertiary thick marine shales (1,500 to 2,000 metres) and underlying Mesozoic? Rocks. Reservoir rocks are Tertiary sand stone of a good reservoir physical property and fractured carbonatte rocks which constitute the basement. Trap structures anticline, fault-sealed, buried hill, facies-sealed, stratigraphic types and reefs. Existing exploration data Integrated geophysical surveys with a grid of km throughout the basin, with a grid of 2 2 km over some parts. Two wells drilled, oil and gas shows found from both wells. Until a comprehensive exploration is made, any suggested figure on the potential hydrocarbon reserves carries no weight at all. As both China National Offshore Oil Corp (CNOOC) and Korea National Oil Corp (KNOC) have the capacity of exploration by their own technology and equipment with financial capacity, the exploration of the Yellow Sea including DPRK s West Korea Bay is a matter of time, once the thorny offshore boundary is settled. The Yellow Sea s Boundary Issue 23 Petroleum issue in the Yellow Sea is currently a dormant one as the exploration has never reached to the areas of uncertain jurisdiction. Under the current situation, even a preparatory attempt to figure out any existence of hydrocarbon resources could trigger the kind of claims and counterclaims that have been witnessed other part of Asia. However, the Yellow Sea coastal states will have no choice but to exploit offshore deposits in disputed areas in some point. What is needed for the Yellow Sea coastal states is a wisdom of win-win strategy. To find a solution that can be equally applied to the boundary dispute between DPRK and China, and South Korea and China is very difficult. If China maintains the silt-line principle based on the concept of the natural prolongation of the continental shelf or alternatively claims an exclusive economic zone (EEZ) extending from Haiyang Island, 69 km off Liaodong Peninsula, problems could arise. A boundary along the silt line would give almost the entire Korea Bay Basin to North Korea, whereas if the equidistant-line boundary was applied, only a small pod of possible oil bearing sediment would lie on the North Korean side of the line. When it comes to the Yellow Sea boundary issue between South Korea and China, the argument point is different. The silt line boundary in the Yellow Sea would place the entire basin on the Chinese side of the line. If the boundary was the equidistant line, most of the basin would be on the Chinese side but half a pod of potentially oil bearing sediment, including a tip of the area with the best perspectives, would be on the South Korean side. In Autumn 2003, Interfax China reported that China is conducting active surveying and prospecting for marine energy deposits, including those of the highly efficient combustible ice in the northern Yellow Sea and part of the East China Sea, as well as a widely-known survey program on track in the northern South China Sea. 24 Qingdao Institute of Marine Geology (QIMG), under the auspices of China s Ministry of Land and Resources (MLR) confirmed that geophysical analysis under the sea had already indicated the presence of 72

73 hydrocarbon deposits. However, fearing the prospect of a territorial dispute with Japan and the South Korea, especially in the North Yellow Sea, the Chinese government have been carrying out the program discreetly, said the official of the QIMG, who would not discuss the progress made by the prospectors in the area. Recently Japan s plan to conduct gas survey activities in disputed areas of the East China Sea is the main reason of the latest flare-up in a long territorial row between China and Japan in the East China Sea. However, the real driving force of Japan s plan is China s plan to start the commercial development of the Chunxiao gas field which is located about 350 km east of Ningbo, close to Shanghai. 25 These reports indirectly confirm the necessity of the Yellow Sea and East China Sea s boundary issue settlement, and the difficulty of the offshore boundary disputes. As the Yellow Sea does not have the Daiyutai or Senkaku Islands type territorial dispute, it would be easier to settle the boundary dispute if all three parties agree to sit together and to settle this critically important issue. The win-win situation will come only when all parties agree to tackle this long-standing issue. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Joint Exploration and Development Cooperation between North Korea, South Korea and China Reportedly in May 2000, both UK s Soco International and Sweden s Taurus Petroleum have proposed Hyundai Corp and KNOC (Korea National Oil Corp) to form a consortium for the oil and gas exploration in the Yellow Sea. Hyundai Corp estimated the Block B and C s reserves are around 100 million 1 billion barrels, and the estimate is based on the two discoveries from the ten drilling wells. The firms saw that the economics of exploration in the west Korean Bay can be justified if a minimum discovery of million barrels reserves is made. The firm wanted to apply for the Korean government fund for the exploration. The firm wanted to take the next step after the June 2000 Summit meeting, but no significant step was taken after the Summit. In South Korea, KNOC is responsible for the continental shelf exploration and development. In North Korea, the counterpart is KOEC which holds the responsibility for oil development and oil concession matters. 26 In 2003, KOEC issued the oil concession to Sovereign Venture Capital. Both KNOC and KOEC have never sit together to discuss about the Yellow Sea boundary issue and West Korea Bay exploration. It is interesting to note that KOEC has asked KNOC to take part in West Korea Bay exploration and development. The target area is the block given to Norwegian GGS (Global Geo Services) where the contract term is expired on April 30, The most ideal situation is to have a meeting among KOEC, KNOC and CNOOC to discuss the Yellow Sea boundary issue and joint exploration (regardless of the settlement of the boundary issue). In particular, the joint exploration in the Yellow Sea and any discovery from the work will offer a unique opportunity to settle the boundary issue once for all. DPRK s Oil Discovery According to Chosun Ilbo (May 26, 2001), North Korea achieved the dream of becoming oil producer in Even though the scale of annual crude oil production from Sook-Cheong County s offshore is very 73

74 small (0.3 mt/y), but to the North Korean authority it is a significant volume (in 1991 the import volume of crude oil was 1.89 mt but the volume recorded only 0.61 mt in 1998). Besides the West Korea Bay exploration, North Korean authority initiated the exploration in Anju Basin by inviting Russian specialists having had experiences in West Siberian oil development and importing the Russian equipment.the report added that overall supervision of the oil development is being led by DPRK premier Sung-Nam Hong. Under his leadership, both Oil Bureau (headed by Mr. Jung-Shik Ko) and KOEC (headed by Mr. Jung-Shik Ko) were responsible for the oil exploration and development. In late August 2002, Singapore based Soverign Venture Pte Ltd announced that it has found oil and gas reserves from the contracted area and the firm expects to be able to recover a minimum of 1 tcf of natural gas and 10 million barrels of oil reserves from the concession area. Even though a very limited result, DPRK s exploration effort has witnessed a sweet success. Until a comprehensive exploration work is done, no one would know the real scale of its oil and gas potential in its offshore. DPRK has every reason to initiate a comprehensive exploration for its offshore areas to ease the energy supply shortage problem but current political situation is blocking any reliable & big name western company s commitment for the exploration work. Until the nuclear crisis is peacefully and completely settled, it would be very difficult to attract the western investment in oil and gas exploration business. 74

75 Appendix A: Useful figures on DPRK Economy and Energy Industry Unit DPRK(A) ROK(B) Ratio(B/A) Population 1,000 22,369 47, Economic growth % GNI US$ , Trade total US$ bn ,2 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Export US$ bn Import US$ bn US $ exchange rate won/$ 2.21 (Jan June) 1, (July Dec) Energy production Coal mt Power generation installation capacity GW Power generation volume GWh 19, , Crude oil import mt Rice production mt Car production million Copper & Iron mt Cement mt Fertiliser mt Table A 1. Major Economy Index Comparison, DPRK vs ROK (2002) Source: The Korea Petroleum Association Journal, Sep/Oct 2003, p. 82. Of the 7.77 GW installation capacity, 2.2 GW is in operation. Due to 0.5 mt/y of heavy oil supply suspension, around 13 15% power capacity is reduced. 75

76 Unit DPRK ROK DPRK ROK PGIC GW PGV GWh 27, , ,400 Refining Capacity mb/d Crude oil import mbbl Coal production mt Table A 2. DRPK & ROK Energy Facility Comparison Note: PGIC means Power Generation Installation Capacity, and PGC means Power Generation Volume Source: National Statistical Office, Korea (2001 Dec) Energy supply (mtoe) Energy Consumption per person(toe) DPRK (a) ROK (b) b / a DPRK (a) ROK (b) b / a % 7.5% -5.0% 6.6% Table A 3. DPRK s Primary Energy Supply Source: National Statistical Office, Korea (2001 Dec) Primary energy(mtoe) Coal Oil Hydro Others Table A 4. DPRK s Primary Energy Supply Structure (Unit: mtoe & %) Source: National Statistical Office, Korea (2001 Dec) 76

77 Total (mtoe) Coal Oil Firewood & charcoal Electricity Table A 5. DPRK s Final Energy Consumption Structure (Unit: %) Source: KEEI (2002) 3. Pipeline Gas Introduction to the Korean Peninsula ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 3.1 A Brief Review on Korea s Stance towards the Trans-national Pipeline Gas Introduction In the wake of the collapse of the Cold War era, energy relationship among the countries in Northeast Asian region has changed significantly. Based on the Northern Policy adopted by the Ro Tae-Woo government, South Korea established a diplomatic relationship with the Former Soviet Union (FSU) in September 1990, and with China in August 1992 respectively. This changed political environment opened the door for South Korea to consider the options of energy co-operation with these two energy super giant countries. Korea s interest in trans-national pipeline gas introduction dated back to the late 1980s when Hyundai Group founder Jung Ju-Young began to explore the possibility of Sakha gas development and gas pipeline introduction to the Korean Peninsula. In July 1992, a Korean consortium led by Korea Petroleum Development Corporation (PEDCO, now Korea National Oil Corp: KNOC) established, and Daewoo Corp became the driving force from the private sector in pursuing this Russian gas import project. In November 1994, a preliminary Feasibility Study between Korea and Sakha Republic, Russia was signed. The 12 months FS work cost US$ 20 million, of which US$ 10 million was in the form of data provision from Russia, and a US$ 10 million cash payment from Korea. The FS route: Gas fields in south-western part of Sakha Republic Yakutsk Tynda Blagoveshensk Khabarovsk Vladivostok DPRK ROK: 5,143 km, of which the Russian section is 4,383 km. It is worth noting that as of 1995, there are only five gas fields with over 100 bcm (C1 reserves). At that time, Chayandinskoye s proven reserves were only bcm, and the field was the biggest one. Its position can be compared with Tarim Basin s Kela-2 field with only around 250 bcm proven reserves for the 4,000 km westeast pipeline. However, Chayandinskoye s reserves significantly increased to 755 bcm in 1997 and eventually to 1240 bcm in

78 Discovery / Production A+B+C 1 C 2 Sredne-Vilyuiskoye 1965 / Sredne-Tyunskoye Sredne-Botuobinskoye Taas-Yuriakhskoye Chayandinskoye Table 26. Gas Fields in Sakha Republic (Unit: bcm) Source: Keun-Wook Paik, Gas and Oil in Northeast Asia: Policies, Projects and Prospects (London: RIIA, 1995), p In December 1995 the FS was completed and the verdict was not positive due to a poor economics of the long distance pipeline development. No further step was taken after the preliminary FS. 28 In the same year, through its 1995 energy plan the Korean government made clear for the first time that it intends to replace a substantial portion of LNG imports by long distance pipeline gas, and to balance the ratio between LNG and pipeline gas ideally in the next decade. According to the report prepared by Kogas for Korean Parliament s Trade and Industry Committee annual inspection in October 1997, as shown in Table 2, the timing of pipeline gas introduction would be around the year of The core of this plan lies in a fact that the pipeline gas could be supplied to South Korea with a much cheaper price than LNG, and it was the selling point to the Korean government. 78

79 PFS work period December 1996 July 1997 Organisations Gas field study: Korea Resources Institute Gas Pipeline study: Korea Gas Engineering Co., Ltd Economics and Investment Environment study: Kogas Research Centre and Korea Energy Economics Institute. PFS work result Proven reserves: 500 mt. Potential reserves are 1.15 bt. It is necessary to secure 260 mt more for international project. Estimated investment cost: US$ 3.0 billion. Pipeline construction: a total of 4,100 km connecting Irkutsk Mongolia Beijing Shandong peninsula Yellow Seas Pyongtaek route has no difficulty in construction. It is not passing through a permafrost region. Estimated investment cost: US$ 8.0 billion. Gas production capacity and market: 20 mt/y, of which 6 mt for Russia, 7 mt for China and 7 mt for Korea. Imported gas price: around 22 25% cheaper, compared with LNG price. Total investment required: US$ 11 billion. Project financing possible. Preliminary conclusion: economical and realistic, if further proven reserves are added and a proper project structure is developed. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Future plan A full FS during , with US$ 100 million cost Agreement among the related parties: Gas field and pipeline development: Gas export start: 2006 Table 27. Kogas Report on Irkutsk Gas Import Preliminary FS Work Source: Report prepared by Kogas for Korean Parliament s Trade and Industry Committee annual inspection in October While KNOC failed to take the further step for the pipeline gas development, Kogas saw pipeline gas import as an opportunity to expand its business domain. As Irkutsk Oblast has asked Korean companies to develop its giant gas field in 1994, Kogas decided to take an initiative towards Irkutsk region s Kovytinskoye gas field development. In mid-1995 a Korean Consortium composed of Kogas, PEDCO, Kohap, Halla, LG, Hyosung, Daewoo, and Yukong (joined in April 1996 and the company name is changed as SK) was established. Prior to this consortium establishment, both Halla and Kohap were competing with each other to take the initiative for this Kovyktinskoye gas project. It was the Hanbo group that has taken a real step for this giant gas project. In early 1996, the Hanbo group later bankrupt due to the financial strain from its ambitious steel plant building set up East Asia Gas Company (EAGC) as its sole subsidiary, with the initial capital of $12 million, for its active participation 79

80 in Irkutsk region gas development. In July 1996, EAGC announced that Hanbo group bought 27.5% of equity of Russia Petroleum having exploration and development license in Kovyktinskoye and Verkhnechonskoye gas and oil fields in Irkutsk region. A total of US$ 44 million, of which US$ 25 million for the 27.5% equity purchasing and US$19 million for a three year loan to Sidanco, was invested. Due to Hanbo group s bankruptcy in early 1997, EAGC had a difficulty in keeping the 27.5% equity. Consequently, the 20% was re-sold to Sidanco in November 1997 when BP decided to invest US$ 571 million in Sidanco. 29 EAGC kept the rest 7.5% for a while and the figure became 8.37% after the 4 th emission. But it was diluted to 7.1% due to its failure to join in the 5 th emission in It was early December 2000 the rest 7.1% was sold to BP-Amoco and Tyumen Oil Company (TNK). 30 When a Korean press reported the secret disposal of EAGC shares, Korean government admitted that there was nothing the government could do to stop EAGC s share disposal but argued that it would not affect its plan to join in the Kovykta gas development project. Kogas consortium was not keen on taking the equity stake of Russia Petroleum due to the following reasons: The first is Kogas believed that Korean gas market opening capacity would provide a strong negotiation leverage. The possibility of 10 bcm gas market provision in the early stage of this trans-national pipeline development was the key point, and CNPC was respecting Kogas position as the gas market provider. It would have been ideal if the Kogas consortium and EAGC made a compromise by joining the forces, but the opportunity was missed. Secondly the reason that Kogas consortium was slow to grasp the importance of securing the equity position in the giant Kovytinskoye field lies in a fact the consortium was very suspicious of the real scale of field s proven gas reserves. But now it is clear that Kovyktinskoye gas field s reserves are big enough to satisfy not only Irkutsk region itself but also both China and Korea s gas demand. The third is that Kogas consortium was reluctant to admit the fact that EAGC s initiative was absolutely correct. When EAGC announced its equity positioning in Russia Petroleum, Kogas consortium together with Ministry of Trade, Industry and Energy (MOTIE) was very strongly objecting the approval for EAGC s investment in Russia Petroleum. Kogas had virtually no experience in upstream business and they argued that it is only a downstream business. It only confirms that at that time Kogas consortium did not have a clear picture with regard to its equity positioning in the upstream sector in the major trans-national pipeline development. Kogas consortium s preference was to pursue the FS work first and then to make the decision later. In 1998, a Japanese consortium led by JNOC (Japan National Petroleum Corp) and Sumitomo Corp took an initiative by proposing a five country FS work on the pipeline connecting Kovykta gas field with China, Korea and Japan via Mongolia but the twelve months negotiations collapsed just Christmas eve due to the failure of drawing consensus. Both China and BP did not take the role of Japan as coordinator of the FS very seriously as Japan is not offering any gas market for the development. In other words, two important players of the negotiation group did not see the necessity of offering a carried interest to the Japanese 80

81 consortium. A very unique opportunity to start a multilateral (five country in Northeast Asian region) cooperation was missed. The collapse of the 1998 negotiation meant the region has lost a chance to make a multilateral energy project and had no choice but to return to Sino-Russian cooperation formula. Without Korea s participation, it would have been a bilateral cooperation project. In May 1999, Korea expressed its interest in Sino-Russian FS work on Kovykta gas project, and its participation laid the groundwork for a trilateral cooperation format. In November 2000, Kogas, CNPC and Russia Petroleum signed an agreement for a full Feasibility Study on the Kovykta gas development. In January 2001, Kogas Consortium was restructured, from seven to nine members. The members are Kogas 27.3%, LG Corp. 14.8%, KNOC 14.0%, Hyosung 12.8%, Daewoo Construction 7.7%, Daesung Industry 6.7%, Hyundai Corp 6.7%, Daewoo International 5.0%, and Hanwha 5.0%. In June 2002, FS work was supposed to be completed but postponed until June A total of US$ 6.0 million (of which 50% by the Government and 50% by Korean Consortium) has to be paid for the Korean portion of the study. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Eventually, the FS work was completed in November The FS concluded that the project development is commercially and technically viable. So the three parties aimed at securing each government s approval until the end of March 2004 but two major issues Gazprom s stance and the border price are blocking the approval. Besides this, the final decision on the Angarsk Daqing crude oil line and Angarsk Nakhodkha crude oil line will affect the fate of this trans-national gas pipeline fundamentally. 3.2 DPRK s Stance towards Pipeline Gas Introduction DPRK authority has shown its reluctance to express interest towards the pipeline gas introduction despite that it has been studying the import option since the mid 1990s. It took for a while for DPRK authority to understand that the KEDO project cannot be completed without the transmission line development. At present, DPRK authority is not willing to change its stance towards the KEDO project and to accept the pipeline gas option, but will take the introduction of the pipeline gas option very seriously when the nuclear crisis is permanently settled. The scale of benefit from the economic development of DPRK by the introduction of the long distance gas pipeline passing through DPRK territory will be very different from that of KEDO project. Assuming that a 1.5 bcm natural gas would be allocated to DPRK as a transit fee plus South Korea s subsidy to prevent the collapse of economic system of DPRK, the pipeline gas would deliver at least a minimum level of gas and power to a number of major cities in DPRK. Unlike KEDO project, both Russia and China are very well positioned in this pipeline project. To observe the progress of trans-national natural gas pipeline projects in Northeast Asia, DPRK established the Natural Gas Research Society, DPR Korea (NGRS DPRK), under the leadership of DPRK s Asia Pacific Peace Committee in NGRS DPRK has sent its delegate to 1998 Ulaan Baator (4 th ) and 1999 Yakutsk (5 th ) Northeast Asian Gas & Pipeline Forum conferences. 81

82 The 4 th International Conference on Northeast Asian Natural Gas Pipeline Held in Ulaan Baatar, Mongolia, Aug 16 18, 1998 Prof. Kyung-Bong Kim Mr. W. G. Pak Mr. M. S. Pak Mr. Y. H. Yun Mr. S. J. Ri Mr. R. S. O Mr. U. H. Hyon Mr. H. S. Kim Dr. Busuph Park DPRK Natural Gas Research Society (NGRS) State PlanningCommission & NGRS Association for Cooperation of National Economy & NGRS Institute of National Economy & NGRS State Academy of Science & NGRS Industrial Construction Enterprise & NGRS The Non-Conventional Energy Development Center & NGRS NCEDC & NGRS Kumgangsan International Group The 5 th International Conference on Northeast Asian Natural Gas Pipeline, Held in Yakutsk, Russia, July 25 27, 1999 Prof. Kyung-Bong Kim Mr. Won-Kook Park Mr. Ki-Soo Kim Mr. In-Sung Kang Ms. Un-Hi Hyun Mr. Hae-Sung Kim Mr. Myung-Nam Cho Ms. Kyung-Yoon Park Chairman, DPRK Natural Gas Pipeline Association Secretary, DPRK NGPA Engineer, DPRK NGPA Member, DPRK NGPA Member, DPRK NGPA Member, DPRK NGPA Member, DPRK NGPA Kumgangsan International Group Table 28. DPRK Delegation to Mongolia and Sakha Republic Source: Dr. Keun-Wook Paik 82

83 In February 2001 Kogas delivered its message to undertake a joint study on the pipeline gas introduction and in September 2001 South Korea announced that it had reached a preliminary agreement with DPRK on a joint FS work for the natural gas pipeline passing DPRK territory. (Later Kogas argued that the firm s FS work on the DPRK section did not see any progress as DPRK authority demanded Kogas preliminary commitment that the pipeline would pass through DPRK territory. Kogas could not take any further step due to this condition) MOU with a Dutch Consortium On April 6, 2001, Prof. Kim s NGRS signed an unpublished 18 point MOU with a consortium of three Dutch trading companies (HS International Trading, Tamalone International, and Boscalis International) The MOU gave the consortium the exclusive right to build the North Korean portion of the pipeline from the Russian border to the South Korean border. DPRK expected that the Dutch consortium would act as an intermediary in promoting the pipeline project with ExxonMobil, Japanese companies, and South Korean gas officials. The MOU envisaged the construction of three gas-fired power stations along the pipeline route with a total capacity of 500 MW (2 units of 200 MW + 1 unit of 100 MW). 31 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 2002 Agreement: KoRus Project On August 3 rd, 2002, FSI Energy signed an agreement with Chairman Kyung-Bong Kim, NGRS DPRK. The agreement gave FSI Energy exclusive transit rights with regard to the pipeline from Northern Sakhalin to the Korean Peninsula. Under this agreement, FSI Energy must identify the source of natural gas supply by 1 st June FSI Energy is trying to take advantage of the political influence of Congressman Curt Weldon (Republican from Pennsylvania) who became the chairman of the House Armed Services Committee. A Korea s Weekly Sisa Journal (February 6/ 13, and March 13, 2003 issue) has reported on this project comprehensively. According to the article, FSI Energy is the driving force of KoRus Pipeline Project aiming at supplying Sakhalin gas to North and South Korea by pipeline. In late May 2002, a US delegation composed of 12 congressmen and led by Congressman Kurt Weldon planned to visit Pyongyang but DPRK authority refused to issue the visa. Congressman Kurt Weldon was being advised by Dr. Roy Kim, vice president of FSI Energy. On August 3 rd, 2002, according to Dr. Kim s interview with Sisa Journal, FSI Energy signed a twelve clauses agreement with DRPK Pipeline Gas Research Society (led by Prof. Kyung-Bong Kim, former head of DPRK Academy of Science) with regard to the exclusive right of pipeline construction development for the DPRK territory section. This agreement requires securing the gas supply source until June 1 st, 2003 and the approval from the both government of the signatories. The interview story argued that US DOE secretary Abraham has helped the introduction of US DOE officer to review the project, and FSI Energy applied a US$ 10 million for the FS work. The interview also argued that FSI Energy s contact point in the State Department is Mr. Robert Manning, the famous Korean Peninsula specialist, and through him the KoRus project is being briefed to the State Secretary Colin Powell. 83

84 This KoRus project was officially introduced during the KIEP-KEI policy Forum on Northeast Asian Energy Cooperation held in Washington DC on January 7 th, However, this KoRus project was not taken seriously by the major institutions in the United States and South Korea. KoRus project failed to secure the gas supply source until June 1 st, 2003 as stipulated in the agreement. Even though FSI Energy is still promoting the project, it seems very unlikely the supply source would be available unless the project is taken care by all the related governments. In short, this is a state level infrastructure project not a commercial one that can be taken care by a small private company s initiative. Both 2001 MOU and 2002 agreement indirectly confirm that DPRK authority is seriously interested in pipeline gas introduction, but is not ready to officially discuss the issue with Washington and Seoul as the approach could affect the settlement of KEDO project. 3.3 Natural Gas Supply Sources for the Korean Peninsula IRKUTSK GAS EXPORT TO THE KOREAN PENINSULA It is inconceivable to separate the option of Irkutsk gas supply to the Korean peninsula from the Chinese energy authority s approach towards Russia s East Siberia oil and gas development and its export to China. The year of 1992 witnessed two major approaches by the China National Petroleum Corp.(CNPC) with regard to pipeline gas imports. The first approach encompassed East Siberian oil and gas development and their export to China. It was suggested in July 1992 by Prof. Zhang Yongyi, then vice president of CNPC, who proposed the development of oil in East Siberia to Russia and Japan. Prof. Zhang added that the oil pipeline could be extended to Japan via Korea, if Japan got involved in the project. The second approach was Central Asian gas import to China. This was proposed by CNPC together with Mitsubishi at the end of During period, CNPC identified Kovykta gas project in Irkutsk region as the priority project for the trans-national pipeline development between Russia and China, and in November 1994 a memorandum of understanding was signed between CNPC and Mintopenergo. In September 1993, CNPC began to negotiate with the Russian for exploration of Markovskoye and Yaraktinskoye oil and gas fields in Irkutsk region. (These two fields are located between Kovyktinskoye and Verkhnechonskoye fields.) CNPC s Russian counterpart was a group of Irkutsk s Petroleum and Gas Geological Company and Geophysical Research Institute, together with 14 other local companies and organizations. CNPC s two exploratory wells were drilled in the two virgin fields. A milestone of East Siberian gas development was laid in early November 1994 when CNPC and MINT- OPENERGA signed a memorandum of understanding for the construction of a long distance pipeline to promote East Siberian oil and gas resources. The 1994 agreement was the first official expression of their determination for the pipeline development. The trans-boundary pipeline, proposed by Sidanco, aims 84

85 at transporting annually bcm from the Irkutsk region in East Siberia to the coastal cities of East China, and possibly to Korea and Japan. Another major agreement was made in late June 1997, when a Russian delegate led by Premier Viktor Chernormyrdin visited Beijing. It was the governmental framework agreement between Russia and China to export natural gas and electricity from East Siberia to China was signed. Under the natural gas deal, Russia would export 25 bcm/y of gas from Irkutsk region over 30 years. The $1.5 electricity deal over 25 years envisages a supply of 20 billion KW/h of electricity from Irkutsk to either Shenyang, Liaoning province or to Beijing. Basically this framework agreement was a re-confirmation of the 1994 memorandum. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 85

86 Region Field (Licensed Company) Reserves (C 1 +C 2 ) Sakhalin Islands Odoptu, Chaivo, Arkutun-Dagi (Sakhalin I project) Piltun-Astokskoye, Lunskoye (Sakhlin Energy Investment Corp) 485 bcm bcm 800 bcm mt Irkutsk Kovyktinksoye 1,932 bcm + 90 mt (Russia Petroleum) condensate bcm helium Republic of Sakha* Verkhnechonskoye (Russia Petroleum) Chayandinskoye (Sakha Republic Gov) Sredne-Botuobinskoye (Sakhaneftegas) Taas-Yuriakskoye (Sakhaneftegas) Talakanskoye (Surgutneftegas) 280 mt 1240 bcm + 50 mt 171 bcm 114 bcm 124 mt + 50 bcm Krasnoyarsk** Yurubchonskoye 282 mt bcm + (Yukos) 29 mt condensate Kuyumbinskoye (Slavneft) Sobinskoye (Gazprom) 154 mt 159 bcm West Siberia Palkliahinskoye, 3,021 bcm, of which Bolshehetskaya (Gasprom) C bcm, C bcm and C 3 1,203 bcm Kazakhstan Karachaganak (BG-Agip-Texaco) 1,300 bcm Turkmenistan*** Shatlyskoye Dayletabad 9.2 tcm in-place, of which 4.6 tcm proven roughly 1,000 bcm recoverable (est) 1,380 bcm recoverable Table 29. Main Gas Supply Sources for China and Korean Peninsula Note: * As of 2002, the estimated recoverable oil and gas reserves in Sakha Republic are 2.39 billion tonnes of oil, 9,420 bcm of gas, and 409 million tonnes of condensate respectively. ** The geological oil and gas reserves of Yurubchen-Tokhomskaya area composed of Yurubchen, Kuyumbinskoye, and Tersko- Kamovskoye fields stand at 1.2 billion tonnes and 1,000 1,200 bcm respectively. *** Besides the above mentioned, the gas fields like Bagadzhin, Kirpichlin, Naipskoye, and Gugurtlinskoye record over 100 bcm gas reserves. Source: Dr. Keun-Wook Paik 86

87 The most important agreements were signed in February 1999 after the fourth regular meeting between Premier Zhu Rongji and his counterpart Yevgeny Primakov. Both sides signed 11 agreements, of which three are related with oil and gas. The first is on a preliminary feasibility study on crude oil export from Angarsk to Daqing through a mt/y capacity pipeline The second is on a feasibility study on Irkutsk region s natural gas export to north-eastern China through a long distance pipeline The third is on a preliminary feasibility study on a western Siberia s gas export to Shanghai by a trans-national pipeline passing through Xinjiang region. Based on this 1999 agreement, a three year FS by the parties (CNPC, Kogas and Russia Petroleum) was undertaken in November 2000 and the result was submitted in November ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS It is worth noting that the ten years preparation period of the Kovykta gas project can be divided into five stages (See Table 30) This period is characterised as bilateral relationship development period between CNPC and Mintopenergo. This is the first stage for the western investment, initiated by Korea s Hanbo group and then by BP s serious move. This is the negotiation period for five country FS work (Had it hammered out a compromised option, it would have opened the door for the genuine multi-lateral cooperation era in Northeast Asia). The driving force of this negotiation was Japan, but its initiative to lend a major loan for the FS work was not supported due to its failure to open their gas market for the development. The focus was once again on bilateral relationship between Russia and China until the three party FS work agreement is signed. Both Russia and China agreed to invite South Korea to the project to minimise the risk of market availability in the early stage of the project. Even though the official agreement for the feasibility study of the Irkutsk gas project was signed in November 2000, the negotiation was suspended for at least 7-8 months due to a number of unresolved issues since Autumn The negotiation resumed in Summer The result of the FS was completed in November Table 30. Five Stages for Kovykta Project Negotiation Source: Dr. Keun-Wook Paik 87

88 Kovykta Gas Development 32 The Kovyktinskoye gas and condensate field discovered by parametric well 281 drilled in 1986 by Vostsibneftegasgeologiya, the subdivision of former Ministry of Geology of Russian Federation and located in the Zhigalovsky region, 350 km to the north-northeast of Irkutsk. Field size Depth of Occurrence (along the vertical) Pay Thickness Effective Thickness 7,499.5 sq km 2,838 3,388 metres Up to 78 metres Up to 29 metres Sandstone Porosity 10 19% Gas Saturation Formation Pressure Reservoir Temperature Condensate Content 25.7 MPa 55 degree C 67.0 g/cu.m Content of CH4 in gas 90.3 moles / % Reserves (as of early 2003)* 1,931.6 tcm + 90 mt of condensate bcm of helium Table 31. The Characteristics of Kovykta Gas Note: On Feb 28, 2000, Federal Geological Committee confirmed that Kovykta s C1+C2 reserves are 1,120 bcm. If the adjacent Khandinsky and Yuzhno-Ust-Kutsky blocks 280 bcm are included, the total will be 1,400 bcm. * On March 15, 2002, the 1,932 bcm (of which C1 1,100 bcm +C bcm) reserves registered by Central Commission for Reserves of Russian Federation Ministry of Natural Resources. Source: Russia Petroleum Investor When the project was initially introduced to the western world, the proven reserves of the field stand at 870 bcm, of which C1 was only 277 bcm. However, as of 2002 the figure became 1932 bcm, of which C1 was 1,000 bcm. The uncertainty on the proven reserves was totally cleared. The turning point of Kovykta project development was BP s acquisition of 45% of equity of Sidanco s interest in Russia Petroleum by providing US$ 172 million of the cost of appraising the Kovykta field. BP s positioning in the project helped the acceleration of the exploration and it confirmed the real scale of the proven reserves. The project s three years FS work was completed in November The main objective of the feasibility study was to show whether gas supply to China and Korea will be effective and commercially viable. The study has evaluated the viability of the core concept that Russia Petroleum would sell CNPC 600 bcm of gas (20 bcm/y) and Kogas 300 bcm (10 bcm/y) over 30 years. 33 The supply would start in 2008 to reach to the level of 30 bcm/y by The study calls for up to 4 bcm/y of gas to be supplied to Irkutsk and Chita 88

89 regions and Buryatia. The required total investment for the project will total US$ 17 billion, much higher than the US$ 12 billion price tag initially suggested in About wells with average depth of 3,000 meters will be needed to develop Kovykta field. This project includes the construction of nine gas treatment plants, 20 compressor stations, and 20 collection stations. Russia s projected demand for the Kovyta gas in is 4 bcm, while that of north-eastern China and northern China is 12 bcm and 8 bcm respectively, and that of Korea is 10 bcm per year. The next step of this FS work is to get the approval from the governments of all parties concerned. Shareholders Equity % ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS BP TNK Interros Irkutsk State Property Committee Table 32. Russia Petroleum s Shareholder Structure: as of late 2003 Source: Interfax Petroleum Report If the project is approved by all three governments, the value of this project will soar. The biggest beneficiary of the project will be BP-TNK group with a 62% of the controlling stake of the project. It is worth noting that Interros Holdings Company s 25.8% equity was put on sales soon after the FS work completion and the estimated price for the equity is around US$ 500 million. However, the most important players Gazprom and CNPC that would decide the fate of project development, and they did not take any action on this equity offer. According to a recent report, Gazprom has proposed a new gas pipeline directing Nakhodka and then to South Korea via Donghae or Sea of Japan. 34 This news indirectly indicates that the pipeline route passing through China s north-eastern provinces could be ruled out by Gazprom. It remains to be seen what would be the fate of this Kovykta gas pipeline route eventually SAKHA GAS EXPORT TO THE KOREAN PENINSULA It is not an exaggeration to say that the initiative of East Siberian gas export to Northeast Asian market was taken by Sakha Republic. It was as early as the 1960s that the possibility of Yakutian gas export to Japan was explored and promoted, and suspended in the wake of the Former Soviet Union s Afghanistan invasion in late In the late 1980s Korea s Hyundai group revived the forgotten project, and eventually in 1995 the preliminary feasibility study commissioned for the Sakha gas development, funded by Russia and South Korea for the amount of $10 million respectively, was implemented. But the outcome was not very encouraging, and no further step has been taken. 89

90 In other words, the conclusion was that Sakha gas export to Korea would not be acceptable for the time being due to remote location, harsh environment and consequently poor development economics. However, Sakha Republic is boasting of a relatively big proven gas reserves (over 1 tcm), and is well positioned to offer enough proven reserves that could justify a long distance and trans-national pipeline development According to Vasiliy Moiseyevich Efimov, then president of Sakhaneftegas, as of 1998 the registered C1 category reserves in Vilyuisk region (10 fields: bcm) and Botuobinsk region (21 fields: bcm) are 1,000 bcm. Besides this, the reserves of Chayandinskoye field in Botuobinsk region are estimated at 755 bcm (previously 208 bcm), of which 535 bcm is exploitable. Already 64 wells have been drilled in the field. Desperate to restore as the main gas export source in the region, Sakhaneftegas has made a proposal for East- Siberian consortium based on Irkutsk region, Sakha Republic and Evenki Autonomous region of Krasnoyarsk Krai in 1998, and the proposal is being supported by Rosneft, Chita region Administration, JSC UES of Russia, Administration of Evenki Autonomous region and Russia Petroleum. Interestingly, Sakhaneftegas has signed an agreement with Russia Petroleum for joint development of Kovyktinskoye and Chayandinskoye fields, even though the priority will be given to Kovyktinskoye first. At that time it was the only way to remove any suspicion on the reliability of the proven reserves scale. The significance of this proposal lied in a fact that the combined development of Kovyktinksoye and Chayandinskoye fields will guarantee solid proven gas reserves that could justify 4000 km long distance pipeline development for a long period. It was not surprising to see this hybrid export scheme was presented at the 4 th United States-China oil and gas industry forum by Xu Ding-Ming, then counsel of department of industrial department, State Development Planning Commission. The hybrid export scheme has two options, even though there is no difference in the pipeline section within the Chinese territory. The first is a 4,961 km pipeline, of which the Russian section distance is 1,960 km and the two pipelines from Kovykta and Chayanda field are meeting at Bodajbo adjacent to the northern tip of the Baikal Lake. The second is a 5,626 km pipeline of which km is in the Russian territory. This second option gives the absolute priority to the Kovykta project as the Chayanda is connected as a back-up supply source. As Kovykta s gas reserves are big enough to pursue a 30 bcm/y gas export for 30 years, there is no need to make Chayandinskoye gas field as the back up supply source for Kovykta gas project. Chayandgas project alone can pursue its own export scheme. In terms of development preparation, Chayandagas project is far behind against Kovykta project. However, a significant work has been done during the last few years. First of all, on July 26, 2002 Sakhaneftegaz completed a preliminary FS for a gas pipeline that will export gas from Chayandgas to Shenyang (This work started based on the agreement signed between CNPC and Sakhaneftegas in April 1999 soon after the Feb 1999 agreement) The initial export volume will be bcm/y and the figure could expand to 20 bcm/ y in the later stage. Secondly, Moscow s Central Commission for Reserves of Russian Federation Ministry of Natural Resources approved the revised figure of Chayandagas proven gas reserves as 1,240 bcm as of Thirdly, in October 2002, Gazprom and Sakha Republic Government signed a framework agreement on forming a joint venture to bid a tender for the development license for the Chayandinkskoye field and other fields in Sakha Republic. 90

91 In particular, Gazprom s strategic alliance with Sakha Republic Government has a special implication. In early 2002, Sakha Government reported to the local legislative assembly that Yukos has secured a 47% controlling sakes of Sakhaneftegas which used to be controlled by Sakha Republic government. In other words, Yukos initiative forced Sakha Republic Government to be minor shareholder in Sakhaneftegas. Sakha Republic Government s choice was to have a strategic partnership with Gazprom which has initially neglected Kovykta project and wanted to be a dominant player in the solely the Russian Federation government asset. In February 2003, Gazprom chairman Alexei Miller and Rosneft president Sergei Bogdanchikov asked president Putin to instruct the Russian Federation Ministry of Natural Resources and other relevant ministries to consider developing the Chayandinskoye, Talakanskoye, Sredne Botuobinskoye, Kovyktinskoye and Verkhnechonskoye oil and gas fields under a single project and initiate an auction in accordance with effective legislation, and Putin accepted the proposal. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS In March 2003, the Russian Government held its first Cabinet meeting to discuss the development of oil and gas reserves of Eastern Siberia and the Far East. During this meeting, the government adopted the draft of the Programme to Establish a Unified System of Production, Transportation and Supply of Gas in Eastern Siberia and the Far East in view of possible export of gas to markets in China and other countries of the Asia Pacific region as the basis for further work. Besides this, the government also decided to include the Gazprom-developed programme in the draft Principal Provisions of the Energy Strategy of Russia for the Period until Interfax report in early 2004 confirmed that the proposals from the state energy firms, in particular Gazprom, Transneft and Rosneft are being taken very seriously by President Putin. 35 In February 2004, Transneft revealed its revised pipeline plan and won the approval of the Amur region, Khabarovsk and Primorye territories governments. Interestingly the authors of this revised plan ignored the previous plan of Angarsk Nakhodka line with a branch line to Daqing. Transneft s Symeon Vainshtok said it would take a year to draft a new feasibility study of the revised pipeline project and it will take another year to design it and about four years to build it. The new route has some characteristics. First, it begins much further west in Taishet and the distance from the pipeline to Lake Baikal has been doubled. Transneft is no longer considering routes that would send the pipeline south of Lake Baikal. The new pipeline will be 4,130 km long, compared with 3,765 km for the Angarsk Nakhodka pipeline. The pipeline will be able to transport 56 mt/y of oil. The project includes the construction of 32 pumping stations, of which 13 will have oil storage facilities. The route includes 48 river crossings and 115 road and railroad crossings. Besides this Transneft s revised plan, the government of the Sakha Republic (Yakutia) along with Gazprom, the Natural Resources Ministry, and Surgutneftegaz has drawn up an alternate route to the Pacific Ocean with oil and gas pipelines in a single corridor. This route would run from Nizhnyaya Poima (Transneft pipeline system) Yurubcheno Tokhomskoye field-verkhnechonskoye field Talakan field Chayanda field Lensk Olekminsk Aldan Neryungri Tynda Skovorodino Blagoveschensk Khabarovsk Vladivostok Nakhodka. The fields like Kovykta, Dulsimininskoye, and Yaraktinskoye would be hooked in later. Thus, a single network would include all major oil and gas fields in Yakutia, Irkutsk region, and Krasnodar territory. The pipeline would stretch 6,224 kilometers. 91

92 The project that combines the oil and gas pipelines was submitted to President Putin at a meeting on the development of Far East transport infrastructure on February 26, 2004 in Khabarovsk. President Putin designated the pipeline as a strategic interest and told Sakha President Vyacheslav Shtyrov to work up the project. President Putin also said all designs for the pipeline must be included in the documents to be submitted to the government. The main problem is the necessary amount of proven oil reserves, while proven gas reserves in the region are sufficient to cover domestic needs and export. Specialists said Russia s state balance includes about 1 billion tonnes, but one and a half times that is needed to ensure the effective operation of an oil pipeline. Here it is worth noting Gazprom s intention to develop Eurasian gas pipeline system. Prof. Alexey M. Mastepanov, Gazprom argued that the export of Kovyktinskoye gas will lead to temporary closing-down of Chayandinksoye gas field for the long term. This fact will complicate the organisation of complex gas supply of the Far East region. As a result the gas fields of Yakutis will lose the market for a long period of time. It will be a great loss of profit for the Russian state. Chayandinkoye gas field can satisfy the prospective demand of China and Korea, and Gazprom proposes to realise this project starting from period. 36 If this approach is accepted and supported by Moscow authority, then Kovykta gas export to China and Korea will never be realised. Unfortunately Korea has given up its vested interest in Sakha gas quite a long time ago. China will not mind too much as long as the price is acceptable and the introduction timing is not delayed too long SAKHALIN GAS EXPORT TO THE KOREAN PENINSULA In 1991 the Concept of Developing Yakutian and Sakhalin Gas and Mineral Resources of Eastern Siberia and the USSR Far East, the so-called Vostok(East) Plan was announced. The key element of the plan was construction of a 3230 km gas pipeline from Sakhalin across Russian territory through North Korea to South Korea, and a 3050 km pipeline from Yakutsk to Khabarovsk. In other words, China saw a possibility of gas import from this Vostok plan, which was an inconceivable during the Cold War period. Like Sakha gas, Sakhalin offshore development was discussed since the 1960s, but until the early 1990s no real development was made partly because of uneasy relations between the former Soviet Union and Japan and partly because of poor development economics. As shown in Table 33 34, the gas reserves in Sakhalin I (Exxon 30%, Sodeco 30%, Roseneft and Sakhalinmorneftegas 20%, and ONGC Videsh Ltd 20%), and Sakhalin II (Shell 55%, Mitsui 25%, and Mitsubishi 20%) stand at 485 bcm and 460 bcm respectively. Besides this, ExxonMobil-Texaco consortium is estimating the gas reserves of Kirinskya prospect in Sakhalin Block III at 720 bcm. If the figures in Tables are proved after exploration, Sakhalin offshore could produce enough gas that can not be absorbed by Japan s gas market alone. 92

93 Fields Consortium name Partners Recoverable Reserves Estimated development cost Production start Table 33. Sakhalin I. Project Odoptu, Chayvo, Arkutun-Dagi Sakhalin I Project Exxonneftegas Ltd 30%: Operator SODECO 30% ONGC Videsh Ltd 20% Sakhalinmorneftegas-Shelf 11.5% Rosneft-Astra 8.5% Crude oil: 307 mt or 2.3 billion barrels Natural Gas: 485 bcm US$ billion, of which Phase I, oil development US$ 4.0 billion Crude oil: peak 26.5 mt/y 4. Chayvo: Dec Odoptu: Dec 2007 Natural Gas: 2007/8. Peak production 21 bcm/y ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Fields Consortium name Piltun-Astokskoye, Lunskoye Sakhalin Energy Investment Corp (SEIC) Partners Shell 55%: OperatorMitsui 25% Mitsubishi 20% Recoverable reserves Estimated development cost Production start Crude oil: 185 mt Natural Gas: 800 bcm US$ 10 billion, of which Phase II, natural gas development (800 km pipeline + LNG terminal) US$ 8.5 billion Crude oil: Peak 6 9 mt Natural Gas: 2006/7. Peak production 13.7 bcm/y or 9.6 mt/y Table 34. Sakhalin II. Project 93

94 Fields / Structure Consortium name Kirinsky PegaStar Neftegas LLC Partners ExxonMobil 33.3% ChevronTexaco 33.3% Rosneft 16.6% Sakhalinmorneftegas 16.6% Projected recoverable reserves Estimated development cost Exploration Condensate: 62 mt Natural Gas: 713 bcm or 25.4 tcf US$ 6.4 billion Need to get an agreement on PSA. FS draft prepared. Table 35. Sakhalin III. Project Fields / Structure Consortium name Astrakhanovskiy Block, Shmidtoskiy Block Sakhalin IV project Partners BP: 49% Rosneft: 25.5% Sakhalinmorneftegas: 25.5% Projected recoverable reserves Estimated development cost Exploration Crude Oil: 110 mt or 0.82 billion barrels Natural Gas: 440 bcm or 15.7 tcf Not available In 2000, the first exploration well was drilled. Technical and economic evaluation of Astrakhanov structure was completed. Table 36. Sakhalin IV. Project 94

95 Fields / Structure Consortium name Kayaganskiy, Block, Vasyukanskiy Block Vostochno-Shmidtovskiy Block Elizavetinskiy Block Sakhalin V project Partners BP: 49% Rosneft: 25.5% Sakhalinmorneftegas: 25.5% Preliminary estimate of the reserves Estimated development cost Crude Oil: 783 mt or 5.87 billion barrels Natural Gas: 432 bcm or 15.4 tcf Not available ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Exploration In 2000, 5000 km 2D seismic work done. In 2002, a total of 2,300 sq. km 3D seismic work done. On July 2,2002 Rosneft was awarded with exploration license of Kaygansko-Vasukanskiy Block Table 37. Sakhalin V. Project Fields / Structure Consortium name Sakhalin Vi Block, including a license are of PetroSakh CJSC Sakhalin VI project Partners Rosneft: 50.0% Alpha-Eco: 50.0% Preliminary estimate of the reserves Estimated development cost Exploration 520 million tonnes of oil equivalent, of which 1/3 for oil and 2/3 for natural gas Not available In 2002, 450 sq. km 3D seismic work done. The license agreement provides for four exploration wells drilling before Table 38. Sakhalin VI. Project As far as Sakhalin gas sources are concerned, Japan was paying special attention despite the long standing the territorial disputes between Japan and the Russian Federation. Around 1998 period Japex and four Japanese steel companies investigated the possibility of introducing 2,225 km pipeline connecting Sakhalin Islands and mainland Japan. The pipeline is composed of three sections: the first section with 625 km from Katangli to Prigorodnoye, the second section with, 1300 km from Prigorodnye to Niigata through offshore, and the last section with and 300 km from Niigata to Tokyo. In fact, then Japan s Ministry of International Trade and 95

96 Industry (MITI) minister, Shinji Sato announced at the International Energy Agency ministerial meeting held in May 1997 in Paris that Japan is considering the Sakhalin offshore gas import pipeline. It was the first official remarks by Japan s minister on international pipeline development between Russia and Japan. During April 1999 and Spring 2002, both Exxon Japan Pipeline Ltd and Japan Sakhalin Pipeline Co. (JSPC) have been preparing a FS for this Sakhalin gas supply to Japan. The three years FS work cost US$ 40 million. JSPC is composed of Japex 45%, Itochu 23.1%, Marubeni-Itochu Steel Inc. 18.7%, and Marubeni Corp 13.2% and was the operator in efforts to develop the FS. The FS assumed that the pipe diametre is inch (65 70 cm) and delivery capacity is 8 bcm/y. The distance from Sakhalin I to Tokyo and Niigata is 900 miles (1,400 km) and 700 miles (1,120 km) respectively. The FS concluded the project was technically and commercially viable. However, the Japanese utilities decided to give a blessing to Sakhalin LNG rather than Sakhalin pipeline gas. A breakthrough was made from Sakhalin II s LNG export to Japan during the first half of Three Japanese utilities, Tokyo Gas, Tokyo Electricity and Kyushu Electricity agreed to import a total of 2.8 mt of LNG from Sakhalin II from In 2004, SEIC announced that Toho Gas and Tokyo Electricity agreed to import 0.6 mt/y of LNG from Sakhalin Islands (See Table 39). Basically the contracts with the Japanese utilities have wiped out the possibility of pipeline gas supply from Sakhalin I to Japan until period. Signed year Company Volume Contract Period 2003 Tokyo Gas 1.1 mt/y Tokyo Electricity 1.2 mt/y Kyushu Electricity 0.5 mt/y Tokyo Electricity 0.3 mt/y extramaximum 0.7 mt Toho Gas 0.3 mt Sub-Total 3.4 mt/y mt Table 39. Sakhalin LNG Supply to Japan Source: Dr. Keun-Wook Paik It was not a co-incidence that Sakhalin I began to float the idea of gas supply to north-eastern provinces soon after SEIC s LNG deal with the Japanese utilities. Reportedly, the idea of gas supply to China was originally promoted by Rosneft, a shareholder of Sakhalin I project. Sakhalin I consortium plans to resume the talk with the Chinese, halted over differences on gas price in In terms of location, north-eastern provinces in China are well positioned to be the beneficiaries of Sakhalin offshore gas development. According to SD- PC s long term plan, China is also considering of importing Sakhalin offshore gas to Heilongjiang province during the period of China has studied the possibility of Sakhalin gas import to Heilongjiang 96

97 Jilin and Liaoning provinces in late 1990s but did not take any step on this option as the priority was given to Irkutsk gas and Sakha gas. Korea s interest in Sakhalin gas dated back to early 1994 when the Korean Government and companies have considered the possibility of initiating the LNG supply from the Lunskoye gas field. Then a minority equity positioning in the Sakhalin II project has been studied continuously. Since 2000, Sakhalin Islands administration intensified its efforts to secure the LNG market for Sakhalin II project s 9.6mt/y LNG scheme, but the ambitious export timetable was extremely difficult to meet without a market commitment. This is the reason why Sakhalin regional governor Igor Farkhutdinov is repeatedly telling that Sakhalin region is interested in supplying gas to Korea, and the gas supply to Korea could begin in Shell which has 55% of equity shares of Sakhalin Energy was lobbying very hard to secure an early commitment from Korean government. Due to Korea s gas industry privatisation drive, however, SEIC s fierce lobbying to penetrating Korea s gas market did reach to nowhere. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS In November 2000, Mr. Yong-Soo Kang, vice president of Kogas delivered an interesting paper at an international conference. He said that The most possible candidate in Russian gas project for the Northeast Asian gas market are the Irkutsk project and the Sakhalin project.. Kogas hopes to carry out the feasibility study on the Sakhalin project to see how much the Sakhalin project will contribute to the Korean gas market and to find possible ways to cooperate each other in the region. Then he added that for the implementation of Sakhalin Project, two different options can be considered. One is the pipeline gas option which is to construct the pipeline through Khabarovsk, Vladivostok, and North Korea, and the other is the LNG option which is to construct the export terminal in the ice free southern port of the island. The length of pipeline from Sakhalin to Korean gas market is about 2,300 km and the day of voyage for LNG carrier is about 2.5 days compared with 7 days from Southeast Asian countries and 15 days from Middle East countries. 38 However, Sakhalin I Project has never shown its interest in the option of gas supply to the Korean Peninsula by pipeline via North Korea. Strictly speaking, Kovykta gas project cannot compete with Sakhalin offshore gas project as the latter is much more economical. In fact the distance from northern Sakhalin to Korea is around 2,700 km and the majority of Russian section terrain is flat. The Sakhalin pipeline option should be much cheaper than that of Kovykta project. 97

98 Delivered Price to Korea (US$ / mmbtu) Gas field Transit Arrival Transportation TT+ gas Countries Country Tariff (TT) field cost Sakhalin Russia, China, N. Korea S. Korea Russia, N. Korea S. Korea Yakutsk Russia, China, N. Korea S. Korea Russia, N. Korea S. Korea Irkutsk Russia, Mongolia, China S. Korea Russia, Mongolia, China S. Korea Russia, China, N. Korea S. Korea Table 40. Projected Delivered Gas Price to Korea Source: Sang-Kon Lee, Energy, in Choong-Yong Ahn and Chang-Jae Lee, ed., Northeast Asia Economic Co-operation: The first step towards Integration (Seoul: Pakyoungsa, 2003), p. 89. However, Moo-Hyun Roh Government has shown a serious interest in the option of Sakhalin gas supply to the Korean Peninsula by pipeline via North Korea. South Korea s national security advisor Jong-Il Ra said that thermal power stations drawing from Russian gas would provide a peaceful alternative to Pyongyang s nuclear programme This is one of the possibilities we are looking at Gas could be drawn from either Irkutsk or Sakhalin. Advisor Ra added that Seoul s plans for a gas pipeline were at an early stage and had not been discussed in detail with its allies or North Korea. 39 It is worth noting that there was a major difference of stance towards this Sakhalin pipeline gas option between the president office and Kogas and Ministry of Commerce, Industry and Energy, and currently Korean government s priority is given to the Irkutsk gas option. Three Options for Sakhalin Gas to the Korean Peninsula The main concept of Sakhalin pipeline gas introduction to the Korean Peninsula is that gas for power plant would replace the problematic nuclear power generation option once for all. The most ideal way to take care of gas for power plant in line with the pipeline gas introduction to North Korea is to build a brand new eight units of gas fired power plants alongside the 900 km North Korean territory. 98

99 1) Gas for Power Only Option LWR Plants 1,000 MW 2 units Gas fired Power Plants 250 MW 8 units Suspended Development in line with the pipeline construction It requires a total of US$ billion, of which US$ billion for pipeline, and US$ billion for power plants. For a new transmission line within 8 cities, US$ 0.25 billion is required. The total cost: US$ billion ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 2) LWR + Gas for Power I. Option LWR Plants 1,000 MW 1 unit Gas fired Power Plants 250 MW 4 units Development with a half capacity As the cost of 2,000 MW nuclear power generation is US$ 2.8 billion, it would cost US$ 1.4 billion for 1,000 MW. Including the basic cost, it would be at least US$ 3.0 billion. The project requires a nation-wide power transmission line (US$ billion) Development in line with the pipeline construction It requires a total of US$ billion, of which US$ billion for pipeline, and US$ billion for power plants. For a new transmission line within 4 cities, US$ billion is required. The total cost: US$ billion 3) LWR + Gas for Power II. Option LWR Plants 1,000 MW 2 units Gas fired Power Plants 250 MW 8 units Development with the full capacity As the cost of 2,000 MW nuclear power generation is US$ 2.8 billion, and the original total plant cost is US$ 4.7 billion. The project requires a nation-wide power transmission line (US$ billion) Development in line with the pipeline construction It requires a total of US$ billion, of which US$ billion for pipeline, and US$ billion for power plants. For a new transmission line within 8 cities, US$ 0.25 billion is required. The total cost: US$ billion 99

100 3.4 Summary After submission of FS result in November 2003, Korean Government started to study the result of the three years study and the final decision was supposed to be made around end of March It is worth noting that a working group meeting for Irkutsk project was held in CNPC during February 10 12, 2004 and this Beijing meeting decided the schedule of general meetings and joint co-ordination committee meetings: March in London, April in Seoul, May in Beijing, June 7 9 in Moscow, and June in Seoul. 40 The start of commercial negotiations without Government s final approval indirectly confirms that the Ministry of Commerce, Industry and Energy is ready to approve the project as soon as the two major issues (*see Appendix B) blocking the go-ahead of Kovykta project are settled. DPRK authority did never admit their interest in initiating the pipeline gas introduction rather than KEDO project completion officially, but 2001 MOU with a Dutch consortium and 2002 agreement with FSI Energy indirectly confirms DPRK authority is very interested in pursuing the pipeline option. The stumbling block lies in a fact that the issue of KEDO s future is not finalised. There are three major pipeline gas supply options for the Korean Peninsula. The front runner is the Kovyktinskoye field in Irkutsk region, followed by Chayandinskoye gas field in Sakha Republic. The last is Sakhalin I project whose priority was to penetrate gas market. Due to Sakhalin II s LNG supply to the Japanese utilities, however, the option of Sakhalin I s pipeline gas supply to Japan before is evaporated. ExxonMobil never showed its interest in pipeline gas supply to the Korean Peninsula, in particular via North Korean territory, and both Kogas and Ministry of Commerce, Industry and Energy are very strongly opposing the option of pipeline gas passing through North Korean territory thanks to the supply security concern. Korea s gas industry has expanded very rapidly due to construction of a 2,440 km nation-wide natural gas trunk network. Unlike Japan where the ratio between gas for power and city gas sectors are 70% vs. 30%, Korea s gas demand is driven by city gas sector. During the IMF period, power generators preferred the cheap coal for power option rather than the gas for power. Without the expansion of city gas sector based on the pipeline network development, it would have been very difficult to absorb the volume initially allocated for the power sector. During the last few years, Kogas could not decide a major gas supply contract due to the privatisation issue and Russian gas import by pipeline from MOCIE cannot continuously delay the gas supply contract any further. This is the reason why Kogas invited a bidding for 5 mt/y of LNG supply for 20 years from In 2003, POSCO and SK s LNG supply contract with Indonesia s Tangguh project signalled a turning point in Korea s gas supply pattern, and in July 2004 MOCIE virtually approved LG Group s scheme of 1.5 mt/y of LNG import from starting 0.7 mt/y during period and 1.3 mt/y in 2007). 42 If KEPCO s proposal for its own LNG supply is also approved by MOCIE, Kogas monopoly position as an exclusive gas supply source will collapse. It will be more difficult for Kogas to save the 7 mt/y of pipeline gas market continuously unless an earliest breakthrough is made in the trans-national pipeline development. 100

101 Appendix B: The Factor of Pipeline Route and Gas Price The biggest obstacles for Kovykta gas supply to South Korea via China are the role of Gazprom in the project and the thorny border price issues. Initially the uncertainty of the scale of proven gas reserves of Kovykta gas project was also a major concern to both CNPC and Kogas but now the reserves are more than big enough to handle the 30 bcm/y of gas export over 30 years. The Role of Gazprom as Co-ordinator of gas export to Northeast Asia There was confusion about the role of coordinator with regard to Kovykta gas export to Northeast Asia. Gazprom argues it has the mandate to co-ordinate the gas export projects from the central authority. In fact, during the key not speech at the 22 nd International Gas Conference held in Tokyo in June 2003, Alexei Miller, CEO of Gazprom officially confirmed that Gazprom has been authorised by the Government to or-ordinate the establishment of a united system for gas production and transportation. 43 However, his talk did not give any hint how the co-ordinating role would be taken care by Gazprom. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS BP-TNK with a controlling stake of 62 percent in Russia Petroleum is desperate to secure a solid support from Gazprom. Industry officials have said recently that Russia is considering changing the source of the gas supply to China and South Korea, eyeing gas from the Republic of Sakha instead of Kovykta in the Irkutsk region. In January 2004, Gazprom said there were numerous violations in the Kovykta license that would have to be resolved before it would participate. Gazprom has outstanding offers to join the project from all the shareholders. Vekselberg said Gazprom is a little afraid to lose their position (as the gas export monopoly), but we don t want to change anything. He said it was possible to have a more sophisticated arrangement with Gazprom that would allow it into the project without necessarily requiring the shareholders to sell it an equity stake. We re ready to organize gas exports through Gazprom, he said, noting the proposition doesn t mean Gazprom would have total control of the pipeline but could perhaps have operating control. 44 According to BP-TNK board member and project manager Sergei Tulinov, the scheme for Gazprom s entry into the huge Kovykta project will probably be determined by July 2004, and there are many ways Gazprom could join the project besides purchasing shares in Russia Petroleum. Irkutsk region Governor Boris Govorin said earlier that Gazprom should buy shares in Russia Petroleum from the regional government and Interros, which own respectively 10.78% and 25.82% of the company. 45 These two reports indirectly confirm that Gazprom s stance towards the project development is decisive. Pipeline Route During the third session (July 2002) of the co-ordinating committee for managing work to draft the Kovykta project FS, the Chinese party asked the western route of the gas pipeline (Mongolian line) will not be considered from now on. According to Xinhua news agency s China OGP, the reasons China wants to have the eastern route rather than western route are threefold: 101

102 The main reason is China prefers to minimising the political risk and saving the transit fee by avoiding a transit country, Mongolia. The second is the economic benefits brought by the pipeline could make the Mongolians suddenly richer than people in China s inner Mongolia, a potentially negative influence on the stability in the Autonomous region. The third is by choosing the east route, China will be able to deliver the economic benefits of the pipelines to northeast China, a region in desperate need of economic and social benefits from the Sino-Russian oil and gas pipelines. Strictly speaking, Mongolian line is the most economic one for all party. However, the giant discovery of Sulige-6 gave enough space for the Chinese planners to re-consider its stance towards the Mongolian route. The exclusion of the Mongolian route option is a fatal blow to South Korea as there is no chance that the price of the eastern route could be as competitive as LNG price. Considering that a report prepared by Kogas for the Parliament s Trade and Industry Committee annual inspection in October 1997 argued that the imported pipeline gas price will be 22 25% cheaper than that of LNG, Kogas will have a difficult time in justifying to import more expensive gas through the Manzhouli routes. Mongolia Route Manzhouli Route I Manzhouli Route II Kovykta Kovykta Kovykta Irkutsk Irkutsk Irkutsk Ulan Bataar Manzhouli Manzhouli Beijing Harbin Harbin Shandong Peninsula Shenyang Shenyang Yellow Sea Shinuiju Dalian Pyeongtaek Ilsan Yellow Sea Pyeongtaek Pyeongtaek 3,819 km, of which: 4,065 km, of which: 4,249 km, of which: 1,027 km in Russia 1,850 km in Russia 1,850 km in Russia 1,017 km in Mongolia 1,879 km in China 1,659 km in China 1,490 km in China Table B 1. Proposed Pipeline Routes Source: Ministry of Commerce, Industry and Energy (MOCIE), Korea At present, Korean side is only talking about the Manzhouli route I and II, and Korea s preference is the Manzhouli II route as it would be bypassing the North Korean territory and the construction and maintenance cost would be cheaper than Manzhouli route I option. During the Parliament hearings in late September 2003, Kogas president Kang-Hyun Oh said that the cost of pipeline gas passing through DPRK will be 1.8 times expensive than that of the Yellow Sea line, assuming the gas supply period is 30 years. He also added that the timing of pipeline gas supply could be delayed to from

103 Gas price It will be eventually the city gate price of this imported pipeline gas that would decide the fate of this Kovykta project. This is the most difficult part. The Russian side wanted to have US$ 100 / 1000 cm level price, but is willing to come down to US$ 75 /1000 cm. The Chinese side wants to pay US$ / 1000 cm as the consumers in north-eastern China cannot afford to pay the much higher price. According to the Gazprom s calculation, the production cost alone represents US$ 30 / 1,000 cm and the transportation cost is at least US$ 30 / 1,000 cm, without adding tax and profit. Gazprom is not sure whether China is really ready to take the price of US$ 70/1,000 cm. The real pressure on the gas price comes from the LNG price secured by China in August China OGP, Xinhua News Agency reported the following detailed price breakdown, as shown in Table 9 & 10. Considering that CNOOC has initially projected that the LNG price China would get will be around US$ 3.84 / mmbtu, there is over US$ 1.0 / mmbtu price discount when the Indonesia s Tangguh price is applied. (Author s interviews with industry and financial sector specialists tell the LNG price delivered to the Chinese soil will be around US$ 2.5 / mmbtu. The price is still lower than US$ 3.0 / mmbtu even after the regasification. Indeed it is a great bargain price.) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS BP Indonesia ALNG Qatar Wellhead gas cost Liquefaction cost Transportation Regasification CIF cost Table B 2. The Estimated Breakdown of LNG Price (Unit: $/mmbtu) Source: HSBC, quoted by China OGP, vol. 10, no. 16, August 15, yuan/cm US$/mmbt Receiving station price Gasification cost Average cost of pipeline transportation City gate price (VAT not included) City gate price (VAT included) Table B 3. LNG Price for a 6 mt/y Supply Initially Calculated by CNOOC Source: China OGP 103

104 Industry sources confirm that this unprecedented price opened the door for a new LNG price era in Northeast Asia. LNG suppliers were very unhappy about this massive price discount that would wipe out the Asian price premium which Japan and Korea have taken for granted to pay for a long period. As shown in Table 39, during the first of half of 2003, Sakhalin II project announced that a total of 2.8 mt/y of LNG of which 1.2 mt/y for Tokyo Electricity, 1.1 mt/y for Tokyo Gas, and 0.5 mt/y for Kyushu Electricity from 2007 were signed. Sakhalin Energy Investment Co (SEIL) refused to expose anything related with the delivered gas price and only highlighted the short distance from Sakhalin Islands to Japan, but industry sources are confirming that the price is hovering around US$ 3.5 / mmbtu. As shown in Table B-4, the average LNG price to Japan in 2002 was US$ 4.27 / mmbtu. The figure indirectly confirms less than 20% discount was made. 47 In other words, Japan got some discount from the Sakhalin LNG price, but the scale of discount is not as good as the Guangdong and Fujian LNG price. KoreaCIF JapanCIF EU CIF UK(Heren NBP index) USAHenry Hub Table B 4. Gas Price Comparison (Unit: US$ / mmbtu) Source: BP Statistical Review of World Energy (June 2003) & MOCIE (2002) In August 2003 when Indonesia s Tangguh project was chosen as the POSCO & SK s 1.15 mt/y of LNG supplier, the price factor played the most important role. The price reported to the Korean Government is as good as that of Guandong and Fujian LNG price. It remains to be seen whether LNG price offered to both CNOOC and POSCO/SK will be a prelude of new LNG price regime in the coming years. 104

105 Against this unprecedented LNG supply price, to secure the pipeline gas price 20 25% cheaper than the discounted LNG price is simply not possible. Even to secure a pipeline gas price around US$ 3.0 /mmbtu is a very tough target to achieve. It is also worth noting that China s stance towards the Russian pipeline gas can not be justified if China s domestic pipeline gas price is considered. In mid-september 2001, PetroChina announced that the average gas price for West-East pipeline will be yaun / cm (US$ 4.332) This is a guideline price prepared by the State Development Planning Commission (now National Development and Reform Commission) for the WEP s 12 bcm gas. The guideline price is composed of 0.45 yuan / cm (US$ 1.47) as well head price and yuan / cm (US$ 2.87) as the transportation tariff. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS City gate price announced mid-september 2001 City Gate price announced in September 2003 Yuan / cm US$ / mmbtu Yuan / cm US$ / mmbtu Henan Province Anhui Province Jiangsu Province Shanghai Zhejiang Province Average Table B 5. West-East Pipeline Guideline Price by SDPC Source: China OGP, Xinhua News Agency & Interfax China Energy Report Due to this expensive domestic pipeline gas price, power producers are refusing to sign the take-or-pay contract with PetroChina. The producers are arguing that the price over 1.1 yuan/cm is not acceptable. If the Chinese authority changes its stance towards the pipeline route and agrees to accept the Mongolian route, the pipeline gas price to the Bohai Bay areas will be definitely lower than US$ 3/mmbtu, and there is a very strong possibility of setting the city gate price in Inchon at US$ /mmbtu. One thing very certain is that the pipeline passing through Manzhouli will not offer a kind of price the Mongolian route can provide. This price issue will be a very thorny part of negotiation for the introduction of Kovykta gas to China and Korea. As mentioned earlier, Gazprom proposed Kogas a new pipeline route for Kovyta gas export to Korea during in early Moscow meeting. Gazprom is ruling out the pipeline route passing through China and envisages a kind of parallel oil and gas pipeline towards Nakhodka and then the extension of gas pipeline South Korea via 105

106 Donghae (or Sea of Japan). It may make sense to the Russian top leaders in terms of maximising the benefit of oil and gas development in East Siberia and Sakha Republic and the export to Northeast Asia. However, the economics of the gas pipeline will not be easy to justify the development. Kogas did not take this proposal positively. Considering that Kogas management is placing a top priority to the price competitiveness of the gas supply, Gazprom will have a very difficult time to persuade Kogas to take the expensive gas from the newly proposed route. China will not be the exception. Appendix C: Korea s Natural Gas Industry and the Gas Market Availability Natural gas expansion in Korea is regarded as a great success case in the industry s expansion. A western major executive described Korea s gas expansion as follows: Kogas was established by the Korean government to handle the construction and operation of LNG terminals, importing LNG and transportation of the imported LNG domestically. Until 1992 when the LNG import scale reached 4.6 bcm/y, Kogas returns were specifically fixed at 0% to underpin the early development of the gas import and transmission infrastructure. In parallel, a rolling programme of market development in local distribution companies was undertaken, and city gas companies were financed by cheap government loans to cover up to 80% of the cost of pipeline construction. It is not an exaggeration to say that Korea s gas expansion was a result of government s preferential policy and the domestic trunk pipeline development. In fact, in late December 2002, a total of 2,442 km nationwide natural gas pipeline network was completed after 12 years construction with 2.5 trillion won (roughly US$ 2.1 billion) of investment. According to Korea s city gas business regulations, the Ministry of Commerce, Industry and Energy (MO- CIE) should announce Korea s Long Term Gas Supply Plan every two years. The 4 th Long Term Natural Gas Supply Plan (LTNGSP) was officially announced by the Ministry of Commerce, Industry and Energy (MO- CIE) in March 1999, and a year later the 5 th LTNGSP was announced in March The 6 th LTNGSP was announced in November 2002 and the 7 th LTNGSP is expected to be announced in October or November

107 City Gas Power Residential Commer-cial Industrial Sub-Total Generation Total Demand (66%) (22%) (12%) (100%) E A ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS 2005 (5) (6) (5) (6) (6) Annual GrowthRate 4.7% 5.5% 6.3% 5.3% 2.0% 4.3% Table C 1. Korea s Long Term Natural Gas Demand Projection (Unit: bcm) Note: E means 5 th LTNGSDP estimate, and 2001 A means actual record. 2. The figures of power generation include IPPs. 3. (5) means 5 th LTNGSDP estimate, and (6) means 6 th LTNGSDP estimate. Source: Ministry of Commerce, Industry and Energy, The 6 th Long Term Natural Gas Supply and Demand Plan ( ), November

108 Gas demand for power generation during the 6 th LTNGSP period is projected to make a modest increase with a growth rate of 2.0%, it is lower than that of 2.2% by the 5 th LTNGSP. In terms of volume, gas demand for power generation during is projected to be around mt. In short, Korea s long term gas demand projection confirms that the gas expansion until 2010 will be driven not by power generation but by the city gas. As witnessed during the 4 th 6 th LTNGSDP projection, the government demand projection s figure was always lower than the actual demand. Kogas has taken care of the supply based on the seven main long-term supply contracts from Indonesia, Malaysia, Qatar, Oman, and Brunei. After 1997, Kogas did not sign any long term contract due to the Kogas privatisation issue that could make a new supply contract very difficult in case the gas supply business is privatised. Besides this, Kogas was trying to save the pipeline gas volume for the Kovykta gas import. However, the growing demand caused a lot of problem 49 and Kogas has decided to adopt a relatively short term contract option to take care of the supply shortage. Kogas projected the supply shortage will reach to 2 mt/y in 2007, and 5.1 mt/y in Kogas LNG supply strategy is to apply a short term supply contract to cover 3 5 years from 2004 and then to pursue a long term contract after 2007 period. As for a new long term LNG contract, the decision will be made after March 2004 when the 7 th Natural Gas Supply and Demand plan is finalised. (As discussed above, recently Kogas announced the 5 mt/y of long term LNG supply bidding, and it signals MOCIE and Kogas policy change towards the long term LNG supply.) This is the reason why Kogas has signed two seven years supply contract with Australia and Malaysia during the first half of Contract Project Name Quantity (mt) Period Date Indonesia Arun III* Korea II Badak V Malaysia MLNG II Qater Ras Laffan Oman OLNG Brunei BLNG* Australia NW Shelf* Malaysia MLNG Tiga Table C 2. Long Term Import Contracts Note: Both ArunIII, BLNG and NW Shelf were based on ex-ship supply while the rest were based on FOB. Source: Ministry of Commerce, Industry and Energy, November 2002; Gas Matters, May

109 Year Supply Shortage Volume (mt/y) ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Table C 3. Projected LNG Supply Shortage Source: Kogas, quoted by the Gas Industry News, August 5 th, In August 2003, Kogas decided to increase the emergency stock volume from current 3 5 days to days after Initially Kogas planned to build 61 units of gas storage tanks in 2010, 67 units in 2012 and 74 units in 2015, but decided to complete the 72 units of storage tanks until In this case, Kogas could increase the monthly stock operation period to days in 2008, and to days after As shown in Table C-3, the scale of LNG supply shortage in 2008 reaches to over 4 mt/y. If the announced 5 mt/y long term LNG supply bidding goes ahead, there will not be enough space for the trans-national pipeline gas around It remains to be seen whether Kogas and MOCIE can afford to save the gas market for pipeline gas from Russia while pursuing this major LNG supply contract. Natural Gas in the Power Industry The power generation sector in Korea is dominated by the state owned Korea Electric Power Corporation (KEPCO) whose ownership structure is composed of five groups: government 32.4%, Korea Development Bank 21.6%, Korea Deposit Insurance Corp 5.1%, Seoul Bank 1.3%, and others 39.6%. As of 1998, the state company operates 85% of installed capacity and 100% of all transmission and distribution facilities. This monopoly situation is set to collapse at the start of privatisation of power industry. According to the promotion schedule of setting-up KEPCO s subsidiary generation companies, as shown in Table C-4, a four stages deregulation procedure will be implemented. The first out of the five GENCOs should be disposed by late 2001 or early 2002.(see Table C-5). 109

110 Stage One Preparation of Cost based Pool: 2001 Separation of KEPCO into power and transmission /distribution business Dividing KEPCO snon-nuclear generation assets into five wholly owned generation subsidiaries (GENCOs) Stage Two Introduction of Price based Pool: All power generated to be sold in the Power Pool Market on a system marginal price basis GENCOs to be permitted to supply directly to large users GENCOs to be sold in part to the private sector Stage Three Wholesale Competition: KEPCO s distribution operation to be split into Regional Electricity Companies (RECs) RECs to be permitted to choose the GENCO from whom they wish to purchase power RECs to be sold to the private sector GENCOs to be permitted to sell power directly to distributors, brokers or customers outside the pool Stage Four Retail Competition: 2009 onwards Retail customers to be eventually permitted to choose their power source from any distribution company or broker on market terms Table C 4. Korea s Power Industry Privatization 50 Source: KEPCO s GENCO Restructuring Promotion Scheme & Yong-Soo Kang, Effects of Market Liberalization on LNG Contracts, presented at World LNG Summit: Growth Markets, Suppliers, Contracts, Technologies in the Asia Pacific and Atlantic, organised by the CWC group in London during September 14 15, 2000: Eui-Soon Shin, Restructuring of the Korean Electric Power Industry, 22 nd International Association for Energy Economics conference proceedings Vol. 2, pp

111 ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS Table C 5. Five GENCOs Note: O, G&DC means oil, gas and domestic coal. KOREPO: Korea Eastern Power Co. KOMIPO: Korea Midland Power Co. KOWEPO: Korea Western Power Co. KOSPO: Korea Southern Power Co. KOWESPO: Korea East-West Power Co. Source: KEPCO. Currently Korea has six IPPs operating Anyang/Puchon, Hanwha, LG Power, Hyundai, SK and POSCO, but these will constitute only 6% of total generation capacity. This IPP scheme was announced first in 1996 and there were four main purposes behind introducing IPPs into the power generation business. The first is to introduce competition gradually. Secondly, to increase efficiency further. Thirdly, to lessen the huge capital expenditure burden from the state power company s shoulder. Fourthly and finally, to allow state corporations to gain experiences in designing, constructing and managing power plants which then can be applied for the state company s overseas projects. When the IPP scheme was announced, as many as eight private companies Dongbu Energy Consortium, Daelim Energy Consortium (with Japan s Mitsui and US Mobil), Donghan Energy (a consortium composed of Dong-Ah Construction with Korea Heavy Industries), LG Energy Consortium, Hanjin Construction, 111

112 Hyundai Energy Consortium, Daewoo, and Yukong Ltd.(Later the name was changed as SK) were competing for two units of 400 MW LNG-fired power plants projects that would cost a total cost of 4000 billion won ($0.5 billion). Initially, Donghan Energy and LG Energy were chosen, but Donghan Energy gave up the project due to the plant site approval problem. The first IPP project constructed by LG Power began to produce electricity from April There are three more IPPs schemes a 470 MW LNG fired plant by Hyundai Energy and two units of 470 MW LNG fired plants by Daegu Electricity, a subsidiary of SK. POS-Energy, a subsidiary of the state-run Pohang Iron & Steel Company (POSCO) was chosen for two units of 500 MW coal-fired power plants in Kawangyang Steel plant in Chonnam Province, but it decided to withdraw the project as Chonnam Province refused to approve the project. In 1995 POSCO announced proposals to construct LNG import facilities and build several power stations at its Kwangyang Steel Works by the end of the century. POSCO s US$ 5 billion project plan covers the building of an LNG receiving terminal capable of handling 6 mt/y of LNG, plus power plants with installed generating capacity of 3,600 MW per plant at the Kwangyang plant which would burn LNG and imported coal. It is worth noting that some western companies were taking an indirect ways to take positions for the power business in Korea. In May 2000, El Paso Energy International confirmed that it signed to take a 50% stake in Hanwha Eenrgy Corp which owns and operates a 1.8 GW power generation facility in Inchon. In June 2000, Texaco Power and Gas took a 25% equity in LG Power which was established to purchase and operate two LNG fuelled plants and district heating facilities from KEPCO and Korea District Heating Corp (KDHC). The Anyang and Buchon plants have a combined capacity of 951 MW and the combined 1,077 giga-calories/hour heat output would be sold to over 170,000 households in the region. According to Korea electric power statistics, as of 1998 Bituminous and LNG-fired plant s net efficiency rate is 37.4% and 34.7% respectively while, that of combined cycle plant is 43.0%. Considering that gas-fired CCGTs operate at a net efficiency of around 55 60%, compared with around 38% for typical coal-fired plants, this CCGT based power plant should be the choice for power generation. As shown in Table C-6, MOCIE projects that as much as 47 mt of coal will be used for power generation in 2010, while the use of LNG will be only 5.9 mt. It indirectly confirms that coal s price competitiveness against natural gas and oil is playing a very important role in selecting the fuel for power generation. Imported Coal (mt) Domesti Coal (mt) LNG (mt) Heavy Oil (mkl) Light Oil (mkl) Table C 6. Fuel Consumption in Power Generation Source: MOCIE, The 5 th Long Term Electricity Supply and Demand Plan: , December

113 In one point, KEPCO had aimed at importing gas for its power generation. The state-run company has established a LNG project team in 1995 to promote its own gas import policy. KEPCO saw that a timely gas supply would not be guaranteed if Kogas current priority in gas supply was made to the residential and industrial sectors rather than the power generation sector. In fact, the pendulum of Kogas priority has directed from the generation sector to the city gas sector during the last few years. At present only Kogas has a license to import LNG. Seemingly, there would be no difficulty in obtaining a license if any private company wants to import LNG and has the necessary facilities. There is, however, a de facto restriction on imports created by Kogas monopoly ownership of existing LNG receiving and storage facilities. Kogas provides three main reasons against removing its gas supply monopoly. First of all, Kogas is playing an important role in controlling the gas supply and demand balance. Secondly, Kogas worries about investment levels in the case that KEPCO is allowed to handle its gas import directly. Thirdly, an invisible competition in gas supply source searching will deprive Kogas of negotiation leverage in gas price decision making. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS KEPCO saw these reasons as not convincing enough to justify any delay of the removal of the gas supply monopoly. Based on the fact that during the summer period KEPCO used to absorb a substantial amount of surplus gas that cannot be stored by Kogas due to Kogas storage tanks deficiency, KEPCO argues that the role of gas demand control is being provided by KEPCO rather than Kogas. Besides this, there were a number of occasions that a gas supply crisis could become a reality due to the late arrival of LNG tankers caused by poor weather conditions. In this context, KEPCO wanted to handle its gas demand in the future by direct import and firmly believed that MOTIE would not be basically against the idea. Both KEPCO and POSCO are very well positioned to handle the gas supply directly due to the relatively big demand scale. When KEPCO wanted to reduce its use of LNG as the LNG price is three times higher than imported coal and two times higher than heavy oil, Kogas threatened KEPCO that Kogas could move in IPP business to absorb the LNG volume not used by KEPCO. It confirms that gas in the power generation sector will be seriously affected by the price competitiveness. In July 2003, POSCO & SK announced that Indonesia s Tangguh project was chosen as the mt/y LNG supply for Kwangyang LNG terminal and power plant. The price was as good as China Guangdong and Fujian price. On top of this, MOCIE has given a preliminary approval to LG Group s 1.5 mt/y of LNG supply scheme in July LG plans to import 0.7 mt/y of LNG during period, 1.3 mt/y in 2007, and 1.5 mt/y from This decision provoked a big protest by Kogas labour union. Consequently, KEEI s presentation on the analysis of the economics of KEPCO s direct LNG import scheme was postponed. Despite Kogas labour union s protest, it would be very difficult to stop KEPCO s plan to handle the LNG import once LG s LNG import scheme is finally approved. KEPCO s main point is that the supply competition will offer a competitive price to the consumers, and it is what Kogas cannot object it. 113

114 This situation change has re-kindled KEPCO s interest in pursuing its own LNG supply. KEPCO s direct LNG import will bring a fundamental change of the pattern of natural gas supply to Korea, and its implications to Kogas and MOCIE s plan to import the trans-national pipeline gas will not be small. Update January 2005 Summary of the new development with regard to the pipeline development in Northeast Asia during the second half of 2004 In late July Petro China informed that it decided to terminate the negotiation with Shell-ExxonMobil- Gazprom consortium for their participation in West-East Pipeline (WEP). On August 4 th, Gazprom had a meeting with Kogas delegation and informed that the firm would support the gas pipeline directing to Nakhodka rather than the route studied in the three year FS by Russia, China and Korea. During the October summit between Russia and China, Russia did not show any hint on the fate of crude oil pipeline, despite Premier Wen s offer of US$ 12 billion financing. In early November, ExxonMobil chairman Lee Raymond indicated the possibility of converting its Sakhalin I gas export option from pipeline to LNG, even though the suggestion was denied by Exxon Neftegas vice president. In late November, it was reported that Gazprom has made a swap deal with Shell for its entry to Sakhalin II project. The core of the deal is Gazprom would get the 25% of the project in return Shell would get a sizable equity in Gazprom s oil field in W. Siberia. It was also reported that Gazprom could strike a similar swap deal with TNK-BP for its entry to Kovykta gas project. In December, reportedly the Russian authority would give the priority to Nakhodka direction crude oil pipeline development, but Transneft would recommend the Moscow authority to give the priority to the Taishet-Skovorodino section and the sideline from Skovorodino to China s Heilongjiang province. At the end of December, the Russian Government decided to construct the crude oil pipeline to Nakhodka but details of the plan will not be ready until May Based on these developments, it is necessary to update the August report prepared for the Working Group on Energy for the DPRK in August The options of pipeline gas supply to the Korean Peninsula based on both Sakhalin and Kovykta gas are still alive, but the Sakhalin option is very fragile to be the priority option for the Korean Peninsula. ExxonMobil wants to avoid a project that could be very badly affected by DPRK factor, and Sakhalin 2 s progress on LNG export is gaining the real momentum. Gazprom has indicated its intention to ask Sakhalin I project to consider the conversion of gas export by LNG rather than pipeline. Kovykta gas project envisaging a 30 bcm/y of pipeline gas export to north China and South Korea is being 114

115 suffered by the Russian politics. Despite the three years FS work, the project is making no progress due to Gazprom initiative to develop the Unified Gas Supply System (UGSS) in Russia s Far East. This gas pipeline will be very seriously affected by Moscow s final decision on Nakhodka direction crude oil pipeline. On Dec 31, 2004, Moscow announced that the Nakhodka direction crude oil pipeline will be constructed but the details will not be available until May 1, METI s financing package seems to have influenced Moscow s decision but the question is whether METI s offer of over US$ 10 billion financing would follow without the settlement of the territorial disputes. Moscow has also sent signals that they could give the priority to the stage by stage development for the long distance crude oil pipeline and to the sideline pipeline to China s Heilongjiang province. At present Gazprom is pushing the route passing through Skovorodino Khabarovsk Vladivostok, but this pipeline will have a difficulty in finding the market as the region will not blindly wait for this pipeline gas from Russia. If a continuous delay of this pipeline gas introduction is made, LNG dominance in the region will be inevitable. As massive LNG expansion schemes by 2020 is being planned by the three Chinese energy majors, this LNG expansion from China will deliver a huge impact to the region s LNG trading pattern. Invisible competition to secure the LNG supply among the regional LNG buyers will be strengthened, and the feared consequence will be the survival of LNG premium for northeast Asian LNG buyers. The most effective way in easing this LNG supply problem will be the earliest introduction of pipeline gas from Russia. ENERGY SCENARIOS FOR THE DPRK REPORT OF THE WORKING GROUP CONVENED BY THE UNITED NATIONS As Sakhalin 1 gas to the Korean Peninsula is not favored by ExxonMobil, the alternative for the pipeline gas to the Korean Peninsula is the Kovykta gas. However, the export route has to be redrawn by adopting the northern route preferred by Moscow authority (Kovykta northern tip of Baikal lake Skovorodino Heilongjiang province). Kovykta gas supply to north China and Korea through the northern route has a number of advantages The gas pipeline can be developed in parallel with the crude oil pipeline supported by Transneft which is prioritizing the section of Taishet and Skovordino s 2000 km section, and it can save the construction cost significantly This gas pipeline to South Korea will be strongly supported by both Kogas and Ministry of Commerce, Industry and Energy (MOCIE) which are very strongly against the pipeline passing through DPRK territory The energy supply to DPRK can be taken care by the side-line ( bcm/y delivery capacity and km distance) from the main trunk pipeline. The main trunk pipeline will not be affected by this side-line to DPRK at all. This pipeline gas introduction to both China and Korea will ease the burden from LNG supply competition in the region very significantly, and will help diversity the region s gas supply sources. 115

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