Beware False Hopes in East Med

The Eastern Mediterranean contains a cluster of proven gas fields that are capable of contributing significantly to both national and regional energy security. But there is a very real danger that the peoples of all three countries that have so far discovered gas in their waters -- Egypt, Israel and Cyprus -- may suffer from false expectations.

In Israel, there is a need to explain the paradox that export-led development is necessary if the giant Leviathan field is to be harnessed for domestic use as well; in Egypt, it concerns the government's desire to eliminate domestic price subsidies at the same time as the country's biggest gas discovery is due to come on stream; in Cyprus, it's about the contrast between finding a relatively modest field, Aphrodite, and officially-raised hopes that Cyprus may be able to replicate discoveries on the scale of Egypt's Zohr or Israel's Leviathan and the role this could play in furthering a settlement to the island's 40-year-old partition.

Egypt

For Egypt, the contrast is stark. President Abdel Fattah el-Sisi's military-backed government is seeking to eliminate massive domestic subsidies, not least by eliminating all electricity subsidies by 2019. It has already raised the cost of gas for electricity by 69%, but this still ensures that electricity companies, which consume the bulk of Egypt's gas production, are typically paying around $3/mn Btu for their supply.

Yet the discovery of Zohr in August 2015 risks raising expectations that subsidies can be prolonged, since the addition of Zohr's 30 trillion ft³ of gas in place substantially increases the scale of the country's proven reserves, which previously stood at 65.3 trillion ft³. With global gas prices low, focussing on the development of a competitive domestic market makes good sense.

But it is never easy to terminate subsidies and there will be those in Egypt who remember the bread riots of 18 and 19 January 1977, when the Sadat government curbed food subsidies, hiking basic food prices by 50%. This led to riots and some 79 deaths in clashes with security forces.

Israel

For Israel, there is a striking contrast between popular concern that Israeli gas should primarily be reserved for domestic use, a security concern ever since the flow of Egyptian gas to Israel was cut in 2011-12 at a time when Israel was reliant on Egypt for 40% of its gas supplies.

But development of such a complex field as Leviathan, which will almost certainly require the installation of floating production and possibly floating transportation systems, will be expensive, and that means any commercial developer will be looking to supply export markets, as well as Israel itself, in order to generate economies of scale.

One prospective investor, Australia's Woodside, has already decided it will not take part, while the principal foreign investor in Leviathan, the US Noble Energy, is waiting to see whether the current impasse between the Israeli government and the Israeli Supreme Court over how to underpin state commitments to a long-term stable regulatory environment can be given real effect. Should the Supreme Court's ruling, expected in the next few weeks, limit the government's ability to include a clause guaranteeing 10 years of regulatory stability into its current framework proposal for gas development, Noble could yet decide to pull out of Leviathan and seek damages for Israel’s failure to permit effective development.

As for popular understanding of the need to develop export markets beyond government-backed programmes for strategic sales to Jordan and the Palestinian Authority, this will not be furthered by the Egyptian government's current position. In December 2015, Cairo announced that it was freezing negotiations on the import of Israeli gas following a ruling by the International Chamber of Commerce that Egypt should pay $1.76bn to the Israel Electric Corporation as compensation for the 2012 cut-off.

Cyprus

As for Cyprus, it simply wants some good news. It has come through a financial crisis, and although the leaders of the Greek and Cypriot communities still enjoy good personal relations and remain committed to find a settlement to end the island's division, progress on reaching a solution seems to have slowed down, which means ministers have to be careful not to promise too much.

So when the Cypriot energy minister Yiorgos Lakkotrypis declared that the geological origins of Egypt's giant Zohr field were also to be found within Cyprus' Exclusive Economic Zone (EEZ), he almost certainly contributed to one of the greatest problems bedevilling east Mediterranean gas: exaggerated expectations.

Zohr lies just 6 km from Cyprus' Block 11, where Total is due to drill its first well towards the end of this year. But both Eni, the operator at Zohr, and Cypriot analysts stress that Zohr itself is contained fully within Egypt's EEZ; it is the underlying geological formations in the region of the underwater Eratosthenes Seamount that appear to link the Egyptian and Cypriot EEZs.

On the one hand, Lakkotrypis boosted Cypriot optimism when he told reporters March 2: "Let me stress that we have identified a number of targets in the area mainly around Eratosthenes which are similar to the structure of Zohr and are therefore of particular geological interest."

On the other, he displayed a degree of realism when he also declared that "I wouldn't want it to be taken that we have actually discovered gas or that hydrocarbons exist there."

The bottom line for Cyprus is simply that while the region's geological formations do, indeed, provide hope for further discoveries in Cypriot territorial and EEZ waters, testing to see whether those aspirations can be turned into hard cash that can benefit ordinary Cypriots requires coherent development programmes and, above all, drilling.

John Roberts, Chief Analyst, Natural Gas Europe