Egypt: The Eastern Mediterranean’s Next Natural Gas Hub?

zohrOn Aug. 31, Egypt and Cyprus signed a preliminary deal for an underwater pipeline. For Egypt, the deal is part of a broader strategy to position itself as a hub of energy development and consumption.

The eastern Mediterranean will attract great interest from international oil and natural gas companies over the next decade.

Egypt, hoping to take advantage of that interest, will try to position itself as the region’s energy hub.

Though Egyptian President Abdel Fattah al-Sisi has made energy reform a priority, other policy goals may slow his progress.

A string of sizable natural gas discoveries has been made in the eastern Mediterranean Sea over the past decade, and Egypt is working to ensure that it reaps the benefits. On Aug. 31, Cairo signed a preliminary deal with Cyprus to build an underwater pipeline linking Cyprus’ Aphrodite gas field with the Egyptian coastline. If the project overcomes the considerable hurdles that still lie in its path, including uncertain funding, the pipeline could be operational by 2020, enabling Cyprus to finally begin producing from its largest known natural gas deposit.

For Egypt, though, the deal is but one small part of a much broader strategy. As the promise of eastern Mediterranean energy draws in significant amounts of foreign investment, Cairo hopes to become the center of regional natural gas development. And it will no doubt be successful, since without Egypt’s infrastructure and massive consumer market, many of the projects under consideration would be neither economical nor feasible.

Rebuilding Its Own Base

But as Egypt well knows, it cannot become a regional natural gas hub until its own house is in order. In the mid-2000s, Egypt became a net exporter of natural gas, thanks to the discovery of several deposits off its coast. However, after peaking at 20 billion cubic meters (bcm) in 2009, Egyptian natural gas exports fell sharply as declining exploration, investment and upstream activity took their toll on the country’s output. By 2015, Egypt had largely shuttered its two natural gas liquefaction facilities and its pipeline to Israel, once again becoming a net natural gas importer.

For Egypt’s energy sector, as for the rest of its economy, the problem was primarily the massive subsidies driving up domestic demand and dragging down production. Since 2008, Cairo had fixed the price of natural gas at $2.65 per million British thermal units (mmbtu), a boon for Egyptian consumers but a hindrance to outside investment. In an effort to rein in runaway consumption, President Abdel Fattah al-Sisi began implementing price reforms and paying energy firms more for their natural gas in 2014. Not only do industrial users now pay $7 per mmbtu, but Cairo has also begun to pay down its debts to international oil companies for the oil and natural gas they have already produced. (Those debts totaled $6.3 billion at the end of 2013.) Moreover, in the wake of the discovery of Egypt’s massive Zohr field, Cairo struck a deal with Italian firm Eni, pledging to pay $4.00-$5.88 per mmbtu of natural gas — a price in line with the going rates on the global market.

Though al-Sisi’s energy reforms have met resistance, energy companies have returned to Egypt with a vengeance. In exchange for higher prices, Eni has agreed to fast track the development of the Zohr field, which remains the Egyptian energy sector’s crown jewel. It alone is expected to yield 10 bcm a year when it comes on line in 2017, and 28 bcm a year when its second phase is completed in 2019. Eni is not the only firm ramping up its activities in Egypt, either. BP has accelerated two of its own projects, the $12 billion West Nile Delta project and the Atoll project. They are expected to add 12.4 bcm and 3.1 bcm, respectively, to Egypt’s total output as they come on line over the next three years.

Yet even in spite of these ventures, Egypt is unlikely to become the major natural gas exporter that it once was. The country’s annual consumption, currently at around 50 bcm, is on track to keep rising — perhaps by as much as 20 bcm — in the coming decade. At the same time, Egypt will have to continue raising energy prices, including by hiking up electricity costs for households, so that it can afford to keep buying natural gas from producers. In August, the government did just that, increasing household electricity prices by as much as 40 percent.

Because Cairo has mandated that any new Egyptian output must first be put toward feeding the country’s own ever-expanding market, little will be left to fill the 20 bcm of export capacity that the country’s liquefied natural gas facilities still have available. Consequently, most of the natural gas Egypt exports in the future will have to come from the stocks it buys from beyond its borders. And for two of its neighbors, Cyprus and Israel, making use of Egypt’s existing LNG facilities is a far better option than sinking the capital required to build new ones.

All Pipelines Lead to Egypt

Prior to the revival in Egypt’s exploration activity, Israel and Cyprus had some luck of their own in stumbling across the gigantic Aphrodite, Tamar and Leviathan offshore fields. Israel considered the windfalls an opportunity to build closer relationships with neighboring Egypt and Jordan by reaching mutually beneficial energy deals that would rest on Israeli natural gas. However, its plans were thwarted by the newfound Egyptian deposits and by its own cumbersome bureaucratic process for approving the natural gas agreements. (Because Noble Energy and its partners are developing both of Israel’s major blocks, many were concerned that the deals would grant the companies an effective monopoly over the country’s natural gas market.)

Foiled by stiff resistance from his Cabinet and the eventual resignation of his economy minister, Israeli Prime Minister Benjamin Netanyahu tried to force the accords through himself by leaning on his national security powers — a rare and controversial move. Though the country’s highest court blocked Netanyahu’s attempt, Israel ultimately settled its issues with Noble Energy and, in 2016, approved the energy deals. Nevertheless, the repeated delays have pushed back Israel’s timetables, and the country’s Leviathan field will not come on line until after several of Egypt’s projects are operational.

With some of its regulatory hurdles behind it, though, Noble Energy is moving forward with its Israeli projects in the Leviathan and Tamar natural gas fields. The first of the two is expected to produce around 12.4 bcm a year in its initial phase, a figure that could increase by 9.3 bcm once the project reaches its second stage. The latter, meanwhile, will expand the Tamar field’s output to 20 bcm per year. In anticipation of the Leviathan and Tamar fields’ progress, Noble Energy has already signed contracts with several Israeli consumers. But the primary focus of the company’s investments in the coming years will be Egypt and Jordan. In fact, the firm already has a nonbinding agreement in place with BG Group and Royal Dutch/Shell to send 7 bcm of natural gas every year, for 15 years, to the LNG facility in Idku, Egypt. It has a similar contract with the Egyptian Dolphinus Holdings to export 4 bcm per year for 10-15 years. Noble Energy and its partners are pursuing similar deals in Jordan, though few have been finalized and many could still fall victim to regulatory delays.

Either way, getting Israeli natural gas to Egypt still presents a problem. A pipeline that has already been built between the two countries could serve as one solution, but negotiations over its use have hit a snag. In 2015, Dolphinus Holdings promised to reverse the pipeline so that natural gas could be moved from Israel to Egypt. But according to the pipeline’s operator, the company never contacted it to discuss the reversal. In the meantime, talks over a 400-kilometer (249-mile) pipeline that would send Tamar’s natural gas to Damietta, Egypt, are still ongoing.

Compared with Israel’s natural gas fields, Cyprus’ projects are moving even slower, thanks in large part to its small domestic market. Moreover, transporting natural gas from Cyprus’ Aphrodite field (also operated by Noble Energy) to its final destination may prove similarly challenging. The country’s recent pipeline deal with Egypt, as well as Shell and BG Group’s January acquisition of a 35 percent stake in the Aphrodite field, may inject new life into the Cypriot natural gas sector — particularly since the energy consortium undoubtedly considers Aphrodite a possible source of gas for its Idku LNG project. Even so, the pipeline’s planned start date between 2020 and 2022 shows that it has clearly taken a back seat to Noble Energy’s plans in Egypt and Israel.

Egypt, accordingly, will continue to push through its much-needed energy reforms over the next two years. Though the process has not been quick or easy so far, it has seen some success, even if that success has its limits. As the demands of a growing population and inadequate resources continue to hem in the Egyptian government, it will have to choose which reforms it can afford to spend its precious political capital on. By all appearances, it seems that Cairo has moved energy reforms to the top of that list, ensuring that it will be well positioned to take advantage of the region’s burgeoning natural gas market.

(Source: Stratfor)

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