Oil and gas in the Capitals

	Vol. 228 No. 01
editorial@worldoil.com   JEFF MOORE, CONTRIBUTING EDITOR, SOUTHEAST ASIA

The Japan's energy challenge: Bobbing and weaving with China and Indonesia.
Last month, Japan's parliament voted to upgrade the Japanese Defense Agency to cabinet status. As the Ministry of Defense, effective Jan. 9, 2007, the agency has more clout, thus signaling Japan's increased defense posturing—a controversial move to countries still simmering over Tokyo's role in World War II. Among the issues that triggered Japan's decision are North Korea's aggressive wrangling and missile tests, and Japan's contribution to the American-led war on terror and Iraq. Another reason is friction over regional gas reserves with China.

Japan and China are in dispute over East China Sea islands that sit near an alleged 200-Bcm gas deposit, according to a 1999 Japanese survey. Japan calls the islands Senkaku. The Chinese refer to them as Diaoyu. They lie 200 mi west-southwest of Okinawa and 120 mi north-northeast of Taiwan. The contest over the islands began in 1969, when the UN said they had gas deposits.

Legal status. Japan asserts that China ceded Senkaku/Diaoyu to Japan following a war in 1895. China did not protest this contract following Japan's defeat in WW II. Complicating the matter is that both Japan's and China's 200-nautical-mi exclusive economic zones (EEZ) overlap in the disputed area, but there is an internationally recognized demarcation line between the two rivals.

The dispute has prompted scores of Chinese People's Liberation Army/Navy (PLAN) forays into waters around the Senkakus/Diaoyus, which has set Tokyo on edge. Hisane Masake, senior member of the Policy Committee of Japan Forum on International Relations, said, "To be sure, the gas dispute in the East China Sea is potentially the most volatile [of Japan's security concerns] and could even lead to a military confrontation." Thus, "The Japanese government earmarked 8.2 billion yen in fiscal 2006 to increase its ability to cope with submarines and armed spy ships in seas close to Japan," said Masake. Elevating Japan's Defense Agency to ministerial level shows that Japan takes such threats seriously.

Japan and China tried to negotiate the dispute in 2005, but to no avail. Because of military pressure, Japan said last March that it will not jointly develop the gas field in question, as had once been considered. Japan also accused China of already producing gas, saying this negated the spirit of negotiation in the UN Convention on the Law of the Sea.

Operations to date. China's CNOOC began drilling the area�known as Chunxiao field to the Chinese, and Shirakaba to the Japanese�in 2003 and announced that it was onstream in January 2006. Tokyo worries that Beijing will deplete the reservoir before Japan has a chance to tap it. The Chinese believe that the field holds 1.6 Tcf of gas.¹ It is part of the Xihu Trough, most of which lies in Chinese territorial waters, and includes Tianwaitian, Canxue, Duanqiao, and Pinghue fields.

Japan is playing catch up in exploiting Shirakaba field. In July 2005, Tokyo granted Teikoku Oil Co. rights to drill there, but project execution is lagging. Teikoku President Masatoshi Sugioka, says, �...we have, over the past several decades, focused our resources on expanding the scale of the domestic natural gas business as a main cash engine.�

And, as with most big business in Japan, Teikoku�s aims line up with governmental policies. It meshes with Tokyo�s �New National Energy Policy,� published in May 2006. The policy says that because of tightening supply and demand, instability of source countries, and increasing state control of reserves worldwide, Japan�s access to oil and gas is at risk. The country is, therefore, applying solutions, such as domestic energy conservation, alternative fuel usage, and diversified access to oil and gas.²

The �New National Energy Policy� is adamant about Japan stabilizing its gas sources and stockpiling supplies for national security. This is yet more impetus to develop the Senkakus/Diaoyus.³ The policy also says that China has an, �Aggressive attitude to secure rights and interests in foreign countries,� and has spent, �more than $12.5 billion... in upstream projects in about 30 countries for the past five years.�⁴

Problems with Indonesia. Adding to Japanese frustrations is the pending loss of Indonesia as the biggest gas supplier by 2010. Indonesia provides Japan with 25% of its total supply but plans to cut that by half, to meet its own growing demand. Luckily, Japan has found another supplier in Qatar, which may double gas sales to the island nation by 2010.

In Indonesia, topsy-turvy political and contractual problems have broughy a decline
in foreign oil and gas investment. This has reduced overall production. Japan has been a casualty of these difficulties, and the well-known ExxonMobil-Pertamina troubles over Cepu field and the D-alpha gas field in the Natuna Sea are typical.

As an aside, Pertamina is experiencing bankruptcy problems.⁵ Regardless, because of high production costs at D-alpha, ExxonMobil and Pertamina negotiated an unusual PSC that reaped them 100% of the profits from the project, with none to the government. There are rumors now that Jakarta seeks to renegotiate these terms, which would further dampen foreign investment.

To allay investors� concerns, Indonesia�s Ministry of Finance announced on Nov. 19, 2006, a policy of zero taxes on imported goods for E&P projects until July 15, 2007. However the projects must be in conjunction with Pertamina and BP Migas, Indonesia�s oil and gas regulator. The policy is retroactive to July 16, 2006. To make good with Tokyo, Indonesian Energy and Mineral Resources Minister Purnomo Yusgiantoro said on Dec. 5 that officials had produced a contract to provide Japan�s Tohoku Electric Power with $1 billion of LNG.

In summary, this potentially volatile situation could lead to a shooting war. It is no coincidence that the defense upgrade followed the energy policy announcement by only six months.