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Insight: Israeli gas holds promise of better ties with neighbors

An officer uses binoculars as he stands on a tanker carrying liquefied natural gas in the Mediterranean, some 10 km (6 miles) from the coast
An officer uses binoculars as he stands on a tanker carrying liquefied natural gas in the Mediterranean, some 10 km (6 miles) from the coast

By Oleg Vukmanovic and Ron Bousso

MILAN/LONDON (Reuters) - Israel's drive to export its new-found natural gas could help to rebuild strained ties with old regional allies Egypt and Turkey, but could deprive Europe of a precious alternative to Russian gas.

Israel has in recent months already signed energy deals with Jordan and the Palestinian Authority, though relations with the Palestinians are at a low ebb, and now needs to expand its export horizons to cash in on its huge energy discoveries.

If all goes well, the latest developments could see first pipelines being laid between Israel and Turkey as soon as 2015, and gas cooperation between Israel and Egypt is also emerging, which would allow export access to Asia's major markets.

A growing population and soaring demand have left Egypt's own liquefied natural gas export (LNG) plants in need of new supply, as domestic shortages eat into seaborne exports through the Suez Canal to the world's most lucrative market in Asia.

This has put Israel's previous plans to pump its gas reserves into a future export plant in Cyprus on the back burner, dealing a major blow to the indebted Mediterranean island's ambitions to become a global player in the gas market.

A Cypriot LNG export plant was due to deliver at least 5 million metric tons a year to Europe and Asia, allowing Europe to reduce its growing dependency on Russia, which has become of particular concern since the crisis in Ukraine cast a Cold War chill over East-West relations.

Israel's new plans throw Cypriot developments into doubt as investors would require more gas than Cyprus has on offer to make returns on multibillion-dollar investments. (NPV gas calculator: http://graphics.thomsonreuters.com/13/03/BV_CYPRUSGAS0313_VF.html)

"If Israel has really ditched Cyprus as a partner to develop the region's gas resources, then we (Cyprus) really do have to find quite a lot more gas if we want to become a viable exporter, and that would inevitably throw our plans back by several years," said one source involved in developing Cyprus's gas reserves.

GATEWAY ALLIANCES

The possibility of sanctions on Russia's energy sector in response to Moscow's annexation of Crimea and troop build-up along Ukraine's eastern border have underscored Europe's acute need to diversify its oil and gas sources.

Israel plans to export gas by pipeline and through several floating LNG production plants, which cool gas to liquid form, so they can ship it to the world's largest markets.

At stake for Israel is a $150 billion tax take should export deals be agreed by a consortium operating its gasfields. Its strategic re-alignment effectively places a tantalizingly close new gas province out of Europe's reach.

"Ultimately Egypt and Turkey need energy, and the fact that we have it is creating a regional convergence of interests," an Israeli diplomatic source told Reuters.

Egypt offers a way for the U.S.-Israeli group of companies developing Israel's giant Leviathan gas field to reach the Asian market, where LNG fetches about twice the price Europeans pay.

"If the companies operating the fields in Israel could reach an agreement with the companies that are operating those facilities, it seems it would benefit Egypt, Israel and all the companies," said Eugene Kandel, head of the national economic council at the Israeli Prime Minister's office.

Egypt and Israel have had only limited economic cooperation since signing a landmark peace accord in 1979. Political turmoil in Egypt in recent years has further limited cooperation between the neighboring countries.

Talks between the Leviathan consortium - Israel's Delek Drilling, Ratio, and Avner Oil, and U.S.-headquartered Noble Energy - and Egyptian authorities are focusing on feeding Israeli gas into the country's idled LNG export facilities.

Britain's BG Group, which runs one of Egypt's under-utilized LNG plants and is among the world's top LNG trading firms, is in talks with the Leviathan partners.

The favored option is to build a sub-sea pipeline from Leviathan to link up with BG Group's offshore pipeline network in Egyptian waters, allowing Israeli gas to feed directly into its LNG plant at Idku, according to industry sources.

If realized, this would not only revive output at Idku but also mean that Israel's first LNG exports would take place from an Egyptian plant.

Previous land-based pipelines between Egypt and Israel were repeatedly bombed by groups opposed to links with Israel, but a subsea pipeline would be much harder to target.

Egypt is struggling to meet rising domestic demand for energy, and a fall in domestic output and power blackouts have stirred dissent in the Arab world's most populous state.

Israeli gas could help ease domestic shortages, take the sting out of the energy-related unrest that contributed to the overthrow of former president Mohamed Mursi, and lighten Egypt's $6 billion debt burden to energy majors like BG Group.

As part of a twin-track export policy, Israel also aims to ship LNG to distant Asian and South American markets through a floating plant to be moored above the Leviathan field.

"We definitely want to strengthen the economic ties with our neighbors, but we also don't want to be too exposed to possible upheavals in the region, so Israel has to have outlets that do not limit us to the region," Kandel said.

TURKISH RAPPROCHEMENT

Once close allies, ties between Israel and Turkey were severely damaged following a deadly raid by Israeli commandos on a Turkish yacht carrying pro-Palestinian activists trying to defy an Israeli blockade on the Gaza Strip in 2010.

Poor relations remain a barrier to a deal on gas, though the sides are talking.

"High-level negotiations on resolving political issues, and lower-level negotiations aimed at making progress on energy have always been held," said a senior Turkish energy official. "Normalization on the relations will pave the way for investment and cooperation on energy."

U.S-led reconciliation efforts in recent months could be boosted by the promise of gas.

"There is clearly significant potential for turning East Mediterranean's new gas wealth from a potential source of conflict to a catalyst for regional cooperation," said Oxford Research Group analyst Sara Hassan. "Turkey will want at least to be seen as trying to leverage better conditions for Palestinians alongside any potential deal."

Peace talks to resolve the generations-old conflict between Israel and the Palestinians are close to collapse, with the Israeli government beginning to impose new economic sanctions on president Mahmoud Abbas's West Bank Palestinian Authority amid mutual recriminations about the deadlock.

Talks between the Leviathan consortium and Turkish counterparts are focusing on building a 10 billion cubic meter (bcm) sub-sea pipeline at an expected cost of $2.2 billion, giving Israel access to a major emerging market and one of Europe's biggest power markets by 2023.

"We think construction phase for a pipeline to transport Israeli gas to Turkey could begin in the second half of 2015," a Turkish energy official said.

A separate yet-to-be-built pipeline linking Europe with the Caspian through Turkey in 2019 could eventually also open up a new market for Israeli gas in western Europe.

An envisaged 25-year supply deal would steady Turkey-Israel ties and boost economic links, while Turkish sanctions against Israel would be lifted and ambassadors reinstated, he said.

"The Turkish market for natural gas is the only growing one (in the region), and the drive to diversify away from Russia will justify Israeli gas to join Azeri, Iranian and Kurdish gas," said Mehmet Ogutcu, chairman of London-based Global Resources Corporation consultancy.

"The Turks realize that if this gas project is implemented without their involvement, they will not be a game-player in East Med. Hence, the Turkish private sector could be encouraged to take the lead and politicians follow them at a later stage," according to Ogutcu.

CYPRUS CUT LOOSE

Already, the gas finds are spurring progress in talks to resolve an even longer-standing dispute over territory between Turkey and Cyprus, across whose maritime boundary any Israeli gas pipeline would have to travel to reach Turkey.

Cyprus has been divided since the north of the island was occupied by Turkish troops in 1974.

"It does look as if natural gas could help to bring the two sides closer to a settlement since Turkey's primary aim is securing the resources to meet skyrocketing demand," said Nicolo Sartori, energy and defense analyst at the Institute for International Affairs in Rome.

"Efforts to get the Eastern Mediterranean gas pipeline have stepped up over the past few months, with the U.S. playing a very hands-on role," said Ogotcu. "The Cyprus settlement is on top of the agenda as it will allow Cyprus to use this pipeline and add its surplus Aphrodite gas."

That could persuade Cyprus to give its consent to a pipeline that went through waters claimed by both the Greek-speaking and Turkish halves of the island. Since last year's downgrade of gas reserves at Cyprus's flagship Aphrodite field, it does not have enough gas to underpin its planned LNG export plant at Vassilikos.

Cypriot officials had counted on additional supplies from Israel to make the export project feasible, encouraged by the fact that Noble and Delek, two of Leviathan's main developers, also own Aphrodite.

Deepening Israeli reluctance to share its gas with a rival Cypriot project has stalled those talks.

(This version of the story corrects first name in the 14th paragraph)

(Additional reporting by Orhan Coskun in Ankara and Henning Gloystein in London; Editing by Will Waterman)

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