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Kazak Government Signals Compromise in Oil Dispute

Delays to the Kashagan project will have an impact on the wider economy, but there is little the government can do to speed it up.
By Elina Karakulova
A threat by the Kazak government to take control of a major foreign-run oil project has raised a few concerns about investment risk, but the move appears to have specifically addressed problems with the giant Kashagan oil field, which is seen as vital to the country’s future.

Something like a truce has now been reached in the government’s dispute with the Agip KCO consortium which is developing the offshore Caspian field, but analysts says that even if the government was to seek a bigger role in the project, it would not get the oil out of the ground any quicker than the current arrangement.

The Kashagan field is the biggest yet found in Kazakstan.

After tough statements from ministers warning that the Kashagan contract might be torn up, President Nursultan Nazarbaev took a less aggressive line when he spoke to reporters on October 8, after meeting Italy’s prime minister Romano Prodi who was on a mission to save the project, which is led by the Italian oil firm Eni.

”We are not talking about revising the contract,” said Nazarbaev.

This suggested that the consortium would remain in place, and Eni would not be ousted as its leader. In August, Kazak environmental protection minister Nurlan Iskakov said that because Agip KCO had broken environment laws, “we have to withdraw its license, since further development of the deposit will cause irreparable environmental damage”. Earlier, Prime Minister Karim Masimov had also suggested that the consortium was in breach of contract.

But Nazarbaev went on to say Kazakstan reserved the right to change the terms of the contract if it decided that Agip KCO was still violating them. He was citing legislative amendments passed by parliament at the end of September which do in fact allow the government to unilaterally break or alter contracts relating to mineral extraction.

Nazarbaev’s remarks appeared to mean that the threat of imminent action had receded to a warning that the government retained the legal tools to act if necessary.

With oil reserves estimated by Agip KCO at 38 billion barrels (just over five billion tons), Kashagan is the centrepiece of the government’s long-term economic strategy of turning the country into a prosperous nation, a projection based in large part on plans to nearly double oil production to 150 million tons a year by 2015.

However, the project has been decidedly slow in getting off the ground. After the start-up date had already been delayed from 2005 to 2008 for technical reasons, Agip KCO infuriated the government by announcing this July that extraction would take a further two years to get going, while the estimated development costs would shoot up from 57 to 136 billion US dollars.

“Kazakstan wants to become one of the world’s top ten oil exporters, so it has an interest in accelerating the extraction process,” explained Dosym Satpaev, head of the Kazakstan-based Political Risk Assessment Group. “So of course it gets annoyed when the investors start saying that’s unlikely and keep drawing the process out.”

As well as accusing the consortium of breach of contract and violating environmental regulations, the government’s response included a demand for 40 billion dollars in compensation and an increased stake for Kazakstan’s national oil and gas company KazMunaiGaz to make it the second largest shareholder after lead company Eni.

It is not clear whether this latter demand remains in place, or how a restructuring would affect other shareholders. At present, Eni, Exxon Mobil and Royal DutchShell have 18 per cent each, Conoco Phillips 9.3 per cent, and KazMunaiGaz and Japan’s INPEX 8.3 per cent each.

The delay to Kashagan’s start-up will inevitably affect the Kazak economy.

In the next couple of years, as President Nazarbaev pointed out on October 28, the government will be forced to pay its share of the higher development costs by trimming expenditure on social programmes and economic reforms. At the same time, past delays suggest that 2010 may not be a cast-iron date for the oil revenues to start flowing in.

Longer term, the government may have to trim its expectations. Commenting on news that the forecast of 150 million tons a year had been reduced to 130 million tons, Prime Minister Masimov said on October 12 that "this is all Kashagan…. Of course we are making adjustments", according to Reuters.

At the same time, Masimov indicated that the size of the compensation Agip KCO would have to pay was still negotiable.

Economic analyst Petr Svoik is in no doubt that the government had to act after Agip KCO revised its plans over the summer.

In requesting a bigger share in the consortium, Svoik argues that the government is motivated by a sense of urgency – it wants to earn a higher share of the consortium’s revenue.

“The financial position is actually far from good, and the economic problems are getting worse,” he said. “The government understands that, and is counting on increasing its national share of the oil revenues.”

Some energy analysts make the point that if KazMunaiGaz did become a major player in the Agip KCO operation, it might give the government more of a role in decision-making but would not necessarily make the oil start flowing any faster or reduce the development costs.

“Kazakhstan isn’t going to take a key role in deciding when extraction starts or how much it is going to cost,” said energy expert Yaroslav Razumov. “KazMunaiGaz has neither the financial nor the technological capacity to become the key operator, although it could become more active and influential.”

The Kashagan dispute, and particularly the legislative changes pushed through parliament, have caused some alarm in business circles, amid concerns that it might be the start of a wider campaign to take control of foreign-run projects. Razumov dismissed such speculation, saying that the government lacked the capacity to run the entire energy sector, nor would foreign investors stand for it.

“No investor will allow the government to interfere in a private-sector project. There has never been a case when transnational corporations allowed local governments to control their share of the project. They either leave or they control the project,” he said.

Gulnur Rakhmatullina, an economist with the Institute for Strategic Studies, says the recent legislation is only part of a natural evolution where a stronger and more assertive Kazakstan is trying to protect its interests.

“In the early Nineties, the doors were wide open to investors and we weren’t able to dictate our own terms as we should have done,” she said. “Now the country is financially stable and the nation’s assets have been developed properly, and we are setting ourselves the task of defending our own national interests when that’s necessary.”

Amid signs that the government is prepared to resolve its dispute with Agip KCO without a major showdown, a deadline of October 22 has been set for reaching an amicable settlement.

Elina Karakulova is IWPR’s Central Asian regional editor based in Bishkek.

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