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Hot Commodities: Energy Diplomacy Takes on New Meaning

Ellen Scholl
Wednesday, December 14, 2016, 8:30 AM

And the Winner Is….

Published by The Lawfare Institute
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And the Winner Is….

After weeks of uncertainty, President-elect Trump announced Exxon Mobil CEO Rex Tillerson as his nominee for Secretary of State. If confirmed (an uncertain prospect), Tillerson would be the first oil executive in the post, potentially giving new meaning to the concept of energy diplomacy in the 21st century and the idea, as articulated by former Secretary of State Clinton, that “energy cuts across the entirety of U.S. foreign policy.”

In addition to the questions that Tillerson’s nomination raises about the future of U.S. foreign policy, the State Department’s lead role in climate negotiations, U.S. obligations under the Paris Agreement, and conflicts of interest, Tillerson’s close relationship with Russian President Vladimir Putin has come sharply into focus. Indeed, the nomination comes at a nadir in the U.S.-Russia relationship, from Crimea, to Syria, to last week’s announcement that Russian hackers tampered in the U.S. president election to aid a Trump victory.

Tillerson was largely responsible for Exxon’s entry into the Russian market following the collapse of the Soviet Union, and Exxon has been accused of toeing a geopolitical line that, while legal, is seen by detractors as overly supportive of the Kremlin. On Sunday, Senator John McCain expressed concern to Fox News that business deals between Exxon and the Russian state could influence the potential Secretary of State’s dealings with the country. Exxon has lobbied against the current sanctions against Russia, namely those targeting the energy sector, which are thought to have cost the company over a billion dollars. Much has also been made of Tillerson’s having been awarded the Order of Friendship by the Russian government for deals that gave Exxon access to the Russian Arctic and Russia’s Rosneft investments in Exxon concessions—although The Washington Post points out that the title has been bestowed upon small town Texas pianists, former NBA Coaches, and museum founders alike.

While the relationship between Tillerson and Putin may be in the spotlight, there are other areas of potential concern. For example, Exxon defied U.S. government policy and the Iraqi central government in signing oil deals with the Kurdish Regional Government in 2011 (check out this Reuters special report for a refresher). In his international dealings, Tillerson has favored operating or making agreements in countries characterized by stability—a preference he may have in common with the president elect. As The Wall Street Journal reports, at a rally in Cincinnati, Trump announced his goal in the Middle East is “stability, not chaos”, potentially signalling a more transactional foreign policy prioritizing relationships with regional strongmen and a U.S. partnership with Russia.

Concerns aside, Tillerson is also known as a tough negotiator who runs a company characterized by caution and sensitivity to geopolitical risk, and it is possible he could provide some stability in what promises to be an unpredictable and erratic administration.For more on the Secretary of State pick, The New York Times provides an introduction, while Steve Coll goes in depth in The New Yorker. Coll’s book Private Empire, which describes Exxon as a company so sizable that it has its own foreign policy, is highly recommended.

OPEC Giving It a Go

Following the meeting of OPEC ministers on November 30, OPEC members agreed to reduce production by 1.2 million barrels per day to draw down global supply and (hopefully) increase prices. The deal, effective January 1, includes a High Level Monitoring Committee to monitor implementation and an institutional framework for cooperation between OPEC and non-OPEC oil producers. However, as the Financial Times puts it, the devil is in the detail—namely, which countries cut production, by how much, and from what baseline. Given reports of record high OPEC production in November, the details matter.

While the bulk of the cuts are to be shouldered by Saudi Arabia and other Gulf producers, Iran was also included in the deal in an unexpected development. In a nod to Iran’s particular post-sanctions situation, the country is allowed to make reductions based upon 2005 (high) pre-sanction production levels, while other countries are to cut from October levels. Iraq, long seen as a stumbling block to a deal, also agreed to cut 200,000 barrels per day. However, two key exceptions are Nigeria and Libya, both of which could raise production and offset the impact of the cuts. Nigerian production has been below-average thanks to sabotage-induced outages, while the energy sector in Libya has been a target in the ongoing conflict and power struggles between the U.N.-backed government in Tripoli and the eastern parliament.

In order to solidify the deal, OPEC also sat down over the weekend with 11 non-OPEC countries, who agreed to cut 580,000 barrels per day in the first deal between the two groups since 2001. Although more specific details on how this burden is to be divided are not forthcoming, Russia has agreed to take on around half (300,000 barrels) of the reductions—although this may have little impact as reductions will be taken based on Russia’s November production numbers, which were at a thirty-year record high, and may not take effect until the latter half of 2017. While Saudi Arabia announced it would cut production even further in light of the deal, the Kingdom is less likely to maintain this commitment if other producers do not deliver. As The Wall Street Journal reports, OPEC members have a history of producing beyond their quotas, there is no mechanism of compliance or punishment, and past agreements have fallen far short of agreed-upon cuts.

Meanwhile, U.S. shale producers are the elephant not in the room. Low production costs and the ability to rapidly ramp up production could offset cuts made by other producers, while the lack of transparency and discrepancies between production estimates and the production numbers self-reported by the countries themselves makes the deal a difficult one to implement. Furthermore, if the deal successfully raises the price of oil, many producers may quickly find it difficult to resist the temptation to produce beyond their targets.

What to Watch

New Year, New Talks…

Following the unraveling of talks in Switzerland last month, Cypriot leaders have agreed to resume talks in Geneva in the new year. Greek Cypriot President Nicos Anastasiades and Turkish Cypriot leader Mustafa Akinci will meet on January 9, followed by a larger meeting with Greece, Turkey, and Britain, the security guarantors, over the security arrangements. This is welcome news for those hoping to push forward with development of Cyprus’ offshore gas resources, an outcome which relies in part on finding a viable export market for the gas, potentially Turkey.

New Deals...

Following congressional extension of the Iran Sanctions Act (still unsigned by President Obama) and amid uncertainty over the incoming Trump Administration’s approach to Iran and the existing Nuclear Agreement, oil giant Shell signed an agreement last week with Iran’s state-owned oil company. The agreement followed a similar announcement from the French firm Total last month, although Shell did not make a binding investment commitment. Shell is purportedly interested in developing two large oil fields and a gas fields, but this could become difficult if the company needs to partner with local stakeholders, including the Revolutionary Guard, which have a heavy energy-sector presence and remain under U.S. sanctions.

The development is seen as a strategy by the Iranian government to solidify deals with western companies while it can, both for domestic political reasons and leverage against the incoming Trump administration. As the New York Times reports, Iranian President Hassan Rouhani is “racing to sign as many oil deals with Western companies as he can before hard-liners at home and President-elect Donald Trump have a chance to return the Mideast country to cultural and economic isolation.”

The Iranian energy sector has struggled to attract investment amid lingering U.S. sanctions, and the president is under increasing pressure to deliver on promises of economic recovery following the deal. Signing deals with European firms would send a signal that if the even Americans cannot or will not invest, Asian and European firms are interested, and would provide Rouhani tangible proof that his gamble is paying of. Rouhani needs to prove he can deliver on the promised economic benefits of the deal, particularly going into an election year in 2017.

Rouhani has staked much politically on the nuclear agreement. He recently said that he will not let Trump tear down the agreement, and plans to discuss the potential repercussions of such an outcome with a team of experts on Wednesday, December 14th.

...And New Opportunities.

Amid the turmoil associated with the incoming Trump Administration's aversion to free trade and promises to withdraw from the Trans-Pacific Partnership, China is doubling down in Latin America, illustrated in part by Chinese President Xi’s tour of the region at the end of November. During the trip the Chinese government cemented $10 billion in energy and infrastructure deals in Ecuador, the smallest OPEC member state, with whom it upgraded relations to a Strategic Partnership.

Trade between the two countries has quadrupled over the last four years: China has invested heavily in oil and hydropower, and since 2009 Ecuador has engaged in multiple oil-for-loan deals with China, many of which require that a share of the funds be used to fund projects with significant Chinese involvement. Aside from investment and private sector involvement, China remains a small recipient of Ecuadorian exports, which head largely to the West Coast of the United States at present. However, amid President-elect Trump’s promises to crack down on immigration and an uncertain future on trade, China could prove a welcome investor and partner for Ecuador, along with a potential counterbalance to the U.S. in a region where the great neighbor to the north has not always been viewed favorably.

This Chinese investment in both individual countries and the region to close to the U.S. could take on new significance should the tension between the U.S. and China increase, and indeed could become increasingly relevant if fears of a trade war are realized.

Ellen Scholl is a Robert Bosch Fellow currently working in Berlin, where she focuses on energy policy and security. She previously worked on energy issues for the Texas Legislature and the U.S. Congress and completed the U.S. Foreign Service Internship Program during graduate school. Ellen has an M.A. in Global Policy Studies from the LBJ School of Public Affairs and graduated with highest honors from the University of Texas at Austin with a B.A. in Government and Humanities.

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