China Moves On Brazil And Russia

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By Greg Peel

The United States has, in recent years, realised that by consuming oil much faster than it can be produced locally, the world’s most powerful nation is held to ransom by its enemies. Those enemies in particular are the Islamic nations of the Middle East. The US went to war with Iraq six years ago to secure the world’s second largest oil deposits and the exercise has proven to be a disaster. Even ties with supposed allies such as Saudi Arabia are tenuous.

The US has also caused diplomatic friction with oil producers as far a-field as Venezuela and Russia. For a nation concerned about dwindling oil supply, the US has not been a good role model for amicable trade agreements. But now that the oil price has crashed, the pressure is off for the moment. The economy is offering up much bigger immediate problems.

The global slump has not been all that kind to China either, but China has entered the downturn in a much better financial position than the US. China is swimming in cash – America is sinking in debt.

Somewhere in between sits Australia, which is also in debt but has a much more disproportionate opportunity than the US, as a commodity producer, to benefit from a healthy China. Australia does have something spuriously called a “free” trade agreement with its US trading partner, but clearly the twenty-first century is witnessing the rise of China as US hegemony fades.

Long before the global financial crisis, when China’s economy was running at up to 12% growth, Chinese authorities were scouring the world for commodity supply deals. China’s approach was amoral, as delegates cared not which despotic regimes it may exploit or which courted states may be enemies of other trading partners. Indeed, such situations offer wonderful opportunity. It is to that end that China has supported the rise of Latin American Marxism by securing oil and gas supply solutions, and has lined the pockets of African dictators in the search for base metal security. Many of China’s deals have drawn the ire of the “free” world.

But eyes can conveniently be turned blind when sovereign survival is at stake. Australia, for example, needs China. The country really has little else left other than resources and actors as a significant source of income, and the actors probably all have offshore accounts.

So it has been that the Australian government has over the past decade been happy to sign away uranium production, for example, to China, with some questionable promise about not making bombs. Trade deals are all well and good. But when it comes to China actually owning Australian resource production, then the political ramifications are onerous.

And thus Treasurer Swan is now charged with the task of deciding whether to let Chinalco save Rio Tinto ((RIO)) in a deal that will see Australia’s duopolistic price-setting leverage in the global iron ore market undermined. The price leverage is one thing. The thought of allowing a nation whose human rights record many Australians still find abhorrent become effective co-owners in the Australian economy is another.

A decision is not expected expediently.

While this no doubt frustrates the Chinese, they have become old hands at waiting out the glacial Australian bureaucracy.  And by making a charge on all fronts – OZ Minerals ((OZL)), Fortescue ((FMG)) for example – they no doubt hope a quick decision may be forced. No one else is going to make a counterbid to match the Chinese, one assumes. But while iron ore hangs in the balance, China has not dropped the ball elsewhere. It is imperative that a nation hell bent on reaching a Western level of economic wealth and lifestyle must secure a long term oil supply.

Brazil, like China, was considered a leading emerging market right up until about mid last year. Now the country is suffering in the global financial crisis. Last week China entered a deal with Brazil’s oil giant Petrobras to supply 100,000-160,000 barrels of oil a day to an oil and chemical subsidiary of China’s Sinopec and to PetroChina. In return, China will give Petrobras US$10bn towards developing existing greenfield projects.

Such a deal must frustrate the Americans considerably, as Brazil is an ally.

One wouldn’t go as far to say that Russia is a proven ally of the US, however, at least not while Vladimir Putin is pulling the strings. But Russia is currently facing disaster. The country’s brief foray into modern capitalism has proven catastrophic, with the rise and fall of the Russian oligarchs leaving US$500bn of debt to manage, while at the same time defending a collapsing ruble. Defence of the ruble is possible, but not if oil remains below US$40/bbl for any length of time.

Enter the Chinese.

China entered into another deal last week, this time providing a loan of US$25bn to Russian state oil exporter Rosneft and pipeline company Transneft to secure an oil supply deal of no less than 241,000 barrels per day for the next 20 years. The cost of finance is believed to be a very accommodating 6%.

Clearly Russia makes much more geographical sense than Brazil, given China and Russia share a border. That the two have a long history of military conflict will bother neither, as China is unencumbered by such considerations and Russia needs the money. The funds will go towards developing massive reserves in Eastern Siberia, and China will likely end up a joint partner in the East Siberian Pacific Ocean (ESPO) pipeline network.

By securing this deal with Russia, China will reduce its reliance on oil piped from the Middle East. Some 80% of China’s oil imports currently come from the Persian Gulf, and while China cares little about one’s religion and one’s enemies even it must be concerned about the long term security of supply in a volatile region.

If the Americans are frustrated over China’s deal with Brazil, they must be positively apoplectic about China managing to reduce its reliance on Middle Eastern supply. For that is exactly what the US would like to achieve. That Russia is the source would only rub salt into the wound.

But not only will America appear as an indirect loser. More directly, Japan and Europe are big losers from last week’s agreement. Japan has also been lobbying the Kremlin with promises to fund ESPO, but has now missed out. Europe is reliant on Russian oil, but the Chinese deal will see Russia’s export focus turn to the east rather than the west, notes the Asia Times’ Russian correspondent John Helmer.

On 2008 global GDP estimations, China has overtaken Germany as third largest economy in the world, while knocking on the door of second placed Japan. The Japanese and European economies are now contracting rapidly, while China’s is still growing, albeit at a slower pace than in earlier years. It’s a long, long way to go to catch the US, but there’s plenty of time.

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