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A Virtual Hub Can Create Actual Peace in the Eastern Mediterranean Benefiting Turkey and Turkish Cypriots

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The Eastern Mediterranean is poised to enter a dangerous escalation spiral over offshore natural gas. On May 3, 2019, Turkey announced that it would commence natural gas drilling operations off the southern coast of Cyprus, in the exclusive economic zone claimed by the internationally-recognized government in Greek-dominated south Cyprus.  The EU High Representative for Foreign Affairs and Security Policy Frederica Mogherini issued a stern warning to Ankara the following day, “[W]e urgently call on Turkey to show restraint, respect the sovereign rights of Cyprus in its exclusive economic zone and refrain from any such action to which the European Union will respond appropriately and in full solidarity with Cyprus.”

For its part, Ankara claims to be defending the legal rights of Turkish Cypriots in the northern half of the ethnically divided island who are the constitutional co-owners of the island’s natural gas but are precluded from participating in its development. On May 12, Turkey doubled-down on its controversial action by announcing that it will send a second drill ship into Cypriot waters.  Four days later, France signed an agreement with Cyprus to service its warships at Cyprus’s Mari naval base where a new docking area is being constructed to accommodate the French navy’s larger warships.  France is home to energy major Total who is conducting natural gas operations off the coast of Cyprus in partnership with Italian energy giant ENI.

Turkey’s brinkmanship has aroused international alarm as the Cyprus issue is the principal fault-line in a wider regional powerplay between Turkey and its neighbors. However, Turkey’s provocative actions are responses to a grander provocation coming from the common front formed by Egypt, Greece, Cyprus, and Israel.  This common front, a macro-alignment composed of interlinked security partnerships among the region’s current natural gas producers, is attempting to create corresponding regional energy architecture that will exclude Turkey from the marketing of Eastern Mediterranean natural gas.

Previously in February 2018, Ankara attempted to send a message to Egypt and Cyprus, as well as the EU, through a limited naval action. Cairo and Nicosia had been negotiating to market Eastern Mediterranean gas to Europe using Egypt’s Liquified Natural Gas (LNG) plants to ensure that the region’s offshore gas bypasses Turkey’s pipeline route to the EU markets. On February 8, 2018, ENI, which had discovered Egypt’s massive Zohr natural gas field adjacent to Cypriot territorial waters in 2015, announced a significant gas find in Cyprus’ nearby Calypso field.  On February 23, the Turkish navy blockaded ENI’s drill ship before it could reach its intended drilling site in Cypriot waters in the same licensing block, forcing the company to withdraw the vessel.

Resulting in the opposite of Ankara’s desired outcome, Turkey’s action pushed Nicosia even closer to Cairo with South Cyprus agreeing to supply Cypriot gas to Egypt’s LNG plants for export. Israel, which once had been considering an Israel-Turkey undersea gas pipeline, followed South Cyprus’ lead and inked deal to sell its gas to Egypt for LNG export.

With the Eastern Mediterranean basin’s offshore natural gas reserves overlaid by a tangled web of territorial disputes and regional rivalries involving Greece, Cyprus, Turkey, Egypt, Lebanon, Israel and the Gaza strip, further provocation from any side could set off an escalatory spiral that could erupt into open conflict. The current trajectory of the region’s energy architecture has created a geopolitical timebomb.  However, the crisis can be averted by providing all sides with a means to prosper from region’s natural gas bounty.

 

A Virtual Exchange can make Real Peace in the Region

Constructive cooperation can be promoted by creating stakeholder connectivity among all the nations in the region through the marketing of Eastern Mediterranean energy – natural gas as well the electricity generated from it – as joint regional commodities to be traded through the establishment of a virtual trading hub whose exchange would be located in the island of Cyprus’ neutral zone between North and South Cyprus in Nicosia and connected to the major trading exchanges in the region.  This exchange creates the possibility for South Cyprus and North Cyprus to cooperate of Eastern Mediterranean energy, even prior to the adoption of a settlement. This solution also carries wider opportunities for regional peace-building among all of the nations of the Eastern Mediterranean.  A virtual exchange holds unique constructive possibilities to improve the material situation in Gaza, promote Israeli-Palestinian cooperation, and to help resolve the maritime dispute between Israel and Lebanon.

 

The Most Commercially Viable Approach

By pooling natural gas supplies in the region, each nation will receive a better price for its gas whereas otherwise small producers would likely be forced to sell their gas at below-market prices just to attract the investments to be able to develop and export their gas.  Treating at least part of the Eastern Mediterranean’s gas as a regional commodity where supply can rationally meet demand would bring the best prices for both supplier and consumer nations.

A virtual gas trading hub like the highly successful UK-based National Balancing Point (NBP) can provide a trading platform to represent a trans-regional zone since all gas within the virtual hub can be traded regardless of its actual physical location, as the virtual hub represents all entry and exit points in the market area.  Without a specific ‘location,’ an Eastern Mediterranean virtual hub can have greater market depth and liquidity than a physical hub in the region. By increasing the flexibility and ease of trading, a virtual trading platform will encourage a desperately needed flow of investments into the upstream development of small producers in the Eastern Mediterranean. By dramatically increase the volume of gas traded, the virtual hub creates a huge economic synergy that would bring greater prosperity to all the countries in the region.

A virtual hub would impose transparency on the gas markets in the region and thereby reducing corruption. Such transparency would facilitate a gas revenue sharing agreement that is an essential component for every plan for re-unification of Cyprus on a bi-zonal basis.

Locating the virtual trading exchange in Cyprus’ neutral zone in Nicosia does not need to wait for the implementation of a re-unification agreement.  The offices and computer servers located in the neutral zone in Nicosia could be jointly managed by North and South Cypriots as a confidence building mechanism. Once operating, both sides will become stakeholders in continuing and expanding their cooperation to develop Cyprus’s natural gas exploration and production. As an EU member, Cyprus’ commercial and contract law already conforms to EU standards, a critical advantage that cannot be offered by either Egypt or Turkey.

As a virtual exchange, the electronic trading can be conducted, at least in part, through Turkey’s Energy Exchange Istanbul managed by EPİAŞ. A leading institution of its kind in the Eastern Mediterranean region, EPİAŞ is at the forefront of liberalizing Turkey’s energy market and has established an excellent track record in operating an electricity trading market, ensuring transparent and reliable market conditions and equal access for all market participants. EPİAŞ has recently begun to do the same for Turkey’s gas market. In addition to Energy Exchange Istanbul, parts of the trading platform can be linked to regional exchanges in Alexandria, Cairo, Athens, Tel Aviv and elsewhere.

Similarly, the delivery of gas cargos – in the form of liquified natural gas – can take place regionally making the most efficient use of the existing facilities across the Eastern Mediterranean by crossing geo-political divides. For example: Although Egypt has two major liquefaction plants, it lacks adequate storage facilities whereas Turkey, oversupplied with LNG and electricity, has underutilized gas storage facilities. By incorporating Turkey into the regional marketing and delivery mechanisms, the market will function the most effectively and replace geo-political antagonisms with stakeholder cooperation.

 

How would it work?

The virtual exchange is not intended to replace any existing or planned project by Turkey or any other country, rather it will augment the effectiveness of such projects by serving as the most efficient pricing platform and creating a regional benchmark price.  The virtual trading energy exchange would be its own neutral entity serving as a counter-party to all parties.  As is the practice in energy contracts, arbitration could be under the jurisdiction of Swiss law, British law, or the International Commercial Court in Stockholm.

Ownership shares in the entity would be open to market participants and even the major trading exchanges of the region.  This model has proven successful for the Energy Exchange Istanbul managed by EPİAŞ in which private market participants collectively own a 40 percent stake and the Istanbul Stock Exchange owns a 30 percent share, while the remaining 30 percent stake is held by Turkey’s state-owned transmission company.

One possible ownership structure is to allocate ownership shares in the entity to the trading exchanges of the four major Eastern Mediterranean energy actors plus Cyprus when a reunification settlement has been agreed upon.  For example, a 15 percent ownership stake can be granted to exchanges in Turkey, Greece, Egypt and Israel.  A 15 percent share would be held in reserve to be granted to an exchange in Cyprus only after a reunification settlement has been agreed upon and implemented.  The remaining 25 percent would be open to private market players such as Turcas and Zorlu, and perhaps state-owned players such as BOTAŞ.

 

Broad Peace Dividends and Clean Energy Transition: From Gaza to Renewables

The peace dividends of the virtual trading exchange extend well beyond the Cyprus issue to ameliorate other conflicts in the region.  Since regional states participate without any physical interaction, the regional marketing via the virtual trading hub opens the possibility to develop and market Gaza’s natural gas production, by providing Gaza with an outlet for exports that would not depend on satisfying Egyptian and Israeli interests. With the transparency imposed by a virtual trading hub, revenues from gas exports would more likely be put toward the improvement of the daily lives of Gaza’s inhabitants.

Similarly, regional marketing and the virtual trading hub may provide a mechanism whereby Israel and Lebanon could resolve their dispute over their maritime borders.  Eventually, Syria’s offshore natural gas could be developed through similar means, as the virtual hub could help Syria attract the necessary private investment for exploration and production. Syria’s offshore natural gas revenues could then help fund the country’s post-civil war reconstruction.

The virtual exchange would trade both natural gas and electricity as these two commodities are closely linked.  In certain instances, it may be more commercially feasible for a gas supplying country or a group of supplier countries to generate electricity from natural gas locally and then transmit the electricity via cables to the EU electricity market. One prominent example of this approach is the EuroAsia Interconnector linking the grids of Israel, Cyprus, Crete, and mainland Greece via a subsea cable with capacity to transmit 2,000 mega-watts. This approach has been recently augmented by Egypt and Cyprus’s May 22, 2019 framework agreement to create a similar EuroAfrica Interconnector between the two nations.

 By promoting electricity trading between the EU and the Middle East, the virtual exchange also constitutes and important bridge to the eventual widespread marketing of electricity generated in the Middle East and North Africa from solar power and other renewable energy resources.

Finally, the virtual exchange would also create business opportunities in the fields of LNG, technological services, and financial services that provide opportunities for collaboration among companies in the region and those from nations such as Russia and EU-member states who are already heavily involved in Eastern Mediterranean energy. This would afford the European Union and Russia to set a new tone in their energy relations.

The most commercially efficient approach to developing and marketing the East Mediterranean’s natural gas is also the approach that creates the widest stakeholder interests in regional cooperation.  A virtual exchange can create actual peace in the Eastern Mediterranean.

 

Dr. Micha’el Tanchum

Dr. Micha’el Tanchum is a fellow at the Hebrew University’s Truman Research Institute for the Advancement of Peace and a non-resident affiliated scholar at the Centre for Strategic Studies at Başkent University (Başkent-SAM).

He conducts research and strategic analysis on the geopolitics, energy, maritime/naval affairs in the Eastern Mediterranean, the Caspian Basin, and the Red Sea-Gulf of Aden Corridor. Primarily focused on Turkey, Cyprus, Egypt, Iran, Saudi Arabia, along with Russia and China, Dr. Tanchum assesses the strategic implications of newly emerging patterns of energy and commercial connectivity on the security architectures of Eurasia. His articles have appeared in The New York Times, Foreign Affairs, Foreign Policy, and several on-line policy journals. He has been a regular contributor to Turkish Policy Quarterly, Hürriyet Daily News, and The Jerusalem Post. Dr. Tanchum holds a Ph.D. from Harvard University and was a Fellow at Harvard’s Olin Institute for Strategic Studies and its Weatherhead Center for International Affairs.

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