The Energy Charter, an intergovernmental organization devoted to promoting East-West energy cooperation among its 51 European and Asian member states-including all the countries of the former Soviet Union (FSU)-is currently developing a new multilateral framework agreement, the Energy Charter Protocol on Transit, establishing new rules on energy transit issues under international law.
The protocol aims in particular to bolster investor confidence in oil and gas projects involving cross-border transit out of Russia and the Caspian basin. This article explains what rules the transit protocol will contain and why its development is relevant for existing and future investors in the energy sectors of FSU states.
Why an energy charter?
When the Soviet Union collapsed, bringing to an end the Cold War era of economic division in the Eurasian area, governments recognized that in this new situation, with 12 newly independent states emerging in the post-Soviet space, a major strategic opportunity had opened up for mutually beneficial cooperation on energy issues.
It was mutually beneficial because the mutual interests of countries in this area were clear: the consumer markets of leading Organization for European Cooperation and Development states, being increasingly dependent on energy imports, saw greater access to the oil and gas resources of Russia and the Caspian region as an important element in building their future energy security.
At the same time, Russia and the other FSU energy-producing states had a clear interest in attracting much-needed foreign capital in order to increase their production capacity and revitalize their aging infrastructure for the exploration, production, and transportation of energy resources.
Based on these complementary interests, an intergovernmental process called the Energy Charter was established in 1991 with the aim of creating a multilateral framework for cooperation between states in realizing these common interests.
From a very early stage it was recognized that such cooperation had to be founded on clearly defined rules to which all participating states would agree. This was necessary because, in the early 1990s, investment protection guarantees that most companies required before confidently investing in the FSU region were often absent from the national legislation of FSU states.
As a result, negotiations began on the development of a legally binding, multilateral foundation for energy cooperation in the charter's constituency. This foundation is called the Energy Charter Treaty (ECT), which was completed in 1994 and which has now been signed or acceded to by 51 states-including all the countries of western and central Europe, Russia, the other FSU states, Japan, Mongolia, and Australia (see map).
The essence of the ECT is a collective attempt by governments to create the necessary climate of legal stability and predictability essential to attracting investments and to stimulate business activity in the energy sectors of the charter's member states, especially those with transition economies.
To this end the treaty enshrines, in a legally binding form, the key principles of openness, transparency, and nondiscrimination as the basis for the relationship among the charter's constituents with regard to cooperation on four key issues: energy trade, investments, transit, and energy efficiency.
Increased focus on transit
Following the treaty's implementation in 1998, energy transit has commanded increasing political attention among governments in the charter's constituency as an area where further efforts are needed to create a stable basis for international cooperation. There are several main reasons for this need:
- First, the development of new energy production areas in the Caspian region and Central Asia has created a corresponding increase in energy transit importance as an economic activity for the regional states.
Countries such as Azerbaijan, Turkmenistan, and Kazakhstan have no direct access to world markets via the sea, and therefore the realization of their enormous potential as producers and exporters of oil and gas will crucially depend on secure and reliable arrangements for the transit of their energy resources through neighboring states.
New transit capacity is also likely to be required in the future to transport oil and gas from the region's landlocked countries. Major investments need to be mobilized now for these facilities.
- In addition, at the other end of the supply chain, consumer markets increasingly depend on energy imports via reliable transit routes. The long-term political importance of securing reliable, diversified energy import sources is currently the subject of much attention within the European Union in particular. And stable arrangements for transit have an important role to play in this regard.
- Coupled with these considerations, it has become increasingly clear in recent years that the collapse of the USSR in the area of energy transportation created specific problems affecting interstate transit that need to be addressed. Among the most significant are a lack of transparency in the conditions under which access is granted to export capacity in pipelines, whether existing or newly built; the phenomenon of illegal theft of gas in transit; and a lack of clearly established criteria for setting transit fees for energy flows.
These problems have served to deter investment in oil and gas projects in the FSU region. They have hampered the development of investor confidence, increased in the minds of strategic investors the perception of risks associated with FSU energy projects, and encouraged major international energy companies to focus instead on opportunities in other parts of the world that offer less perceived political risk.
Cross-border flow rules
One way of addressing these problems is for governments-acting collectively-to develop rules under international law in order to clarify the legal basis on which cross-border energy flows take place.
Consequently, a consensus view emerged among the organization's member governments in the late 1990s that the rules of international law in the area of transit needed to be strengthened further.
Given the breadth of its geographical coverage and its existing base of legal norms within the ECT dealing with transit issues, the Energy Charter presented the most appropriate forum within which to pursue this work for the states of the Eurasian continent.
As a result, negotiations began in early 2000 on the rules for an Energy Charter Transit Protocol (ECTP), a legally binding document aimed at strengthening the existing transit-related obligations on governments under the ECT. The protocol's primary objective is to ensure that commercial decisions regarding whether or not to invest in energy projects involving exports from landlocked areas can be made within a transparent and nondiscriminatory framework. The negotiations, now in the final stages, should be completed this year.
As of today, it is not possible to give an exact description of the transit protocol's final content; it will, of course, have to reflect a fair balance between the sometimes very divergent interests of the countries involved-some of which are primarily "transit" states, some of which are net exporters of energy, while others-Russia being the most obvious example-have a direct interest in transit issues both as a producer and as a transit state.
State obligations
Notwithstanding this caveat, the main obligations on states that are currently under discussion as part of the transit protocol negotiations can be summarized as follows:
- To ensure that energy flows passing through their territory in transit are not interrupted.
- To define in legal terms the concept of available capacity for transit shipments and to ensure that access to such available capacity is granted on a transparent and nondiscriminatory basis.
- To ensure that negotiations on such access are conducted in good faith. However, it should be stressed that this will not entail an obligation to provide mandatory third-party access to pipeline systems, either in the FSU region or elsewhere in the Energy Charter's constituency.
- To ensure that tariffs charged for energy in transit are objective, reasonable, and nondiscriminatory.
Tool for investors
Once adopted, the ECTP will offer a legal tool that companies can use to protect their interests. Under the protocol, for example, investors in oil and gas production projects in non-Russian FSU countries will know on which criteria decisions concerning their access to the Russian pipeline system have to be based under international law.
They also will be able to rely on a transparent set of criteria that will determine the transit tariffs applicable to their oil and gas exports, once access to the system is granted. By setting these criteria under international law, governments can make an important contribution to improving the long-term legal climate for investors in energy projects that involve transit out of the FSU region.
Naturally, the adoption of a multilateral agreement on energy transit will not in itself provide the answer to every problem affecting energy projects in the FSU region. And we should remember that decisions whether or not to invest in energy projects involving energy exports from landlocked areas will be made not by governments but by companies acting on a commercial basis.
It is not the task of governments to interfere with such commercial decision-making processes, to dictate which individual projects should go ahead and which should not, or to predetermine the commercial terms on which they are to be realized. Private industry must retain the flexibility to make its own judgments in this respect.
What governments can do, however, is to act collectively in order to establish the "rules of the game" for energy transit out of the FSU region.
In this context, the transit regime being developed by the Energy Charter represents an innovative undertaking to establish a legal mechanism that meets the interests of all countries involved in energy transit in the ECT constituency-producers, consumers, and transit states themselves.
The rules it contains will help ensure the security of interstate energy transit in several ways for the mutual benefit of the charter's members:
- The security of supply to traditional energy importing countries, particularly those of Western Europe, over the coming decades.
- The promotion of an investor-friendly climate in transitional econ- omies, thus strengthening prospects for their economic growth.
- Regional economic stability and the cooperation among the states of Central Asia and the Caucasus.
Russia's vital role
However, there is one key issue to be resolved in order to unlock the full potential of this legal regime as a force for stability in the FSU region.
Clearly, any intergovernmental pro- cess dedicated to promoting energy cooperation with the countries of the FSU can achieve substantial results only if Russia is a full-fledged participant. Therefore, it is vital that Russia confirm its adherence to the obligations that it has taken on under the ECT by ensuring the treaty's ratification.
As of today, Russia is 1 of only 6 states out of all the 51 that signed the ECT that have not completed ratification. Without taking this step, Russia will not be able to accede to the Transit Protocol being negotiated under the treaty's auspices (in the negotiation of which the Russian government and Russian energy companies are actively involved).
Only through ratification of the ECT, therefore, will the Transit Protocol realize its full potential as a legal instrument for Russia's energy relations with its FSU neighbors and its partners in Western Europe.
More generally, ECT ratification would underline Russia's credentials as a candidate for accession to the World Trade Organization, which Russia's President Vladimir Putin has declared to be one of his political priorities, and it would also send a strong signal to the international community concerning Russia's commitment to a positive climate for foreign companies looking to invest in Russia.
For this reason, the Energy Charter is focusing on a twin-track approach in terms of its priorities in 2002: finalization of the current negotiations on a transit protocol and completion of ECT ratification by Russia. No firm timetable can be given as yet for the achievement of these goals.
In the case of a decision on ECT ratification by Russia, that is, of course, a sovereign matter for the Russian parliament to resolve, but it is clear that their realization would represent a substantial step forward in the development of a stable long-term framework for foreign engagement in the oil and gas sectors of the FSU region.
Additional information about the Energy Charter and its workcan be found at Energy Charter web site at http://www.encharter.org.
The author
Ria Kemper, a German national, was appointed Secretary General of the Energy Charter Secretariat in January 2000. Kemper earned her PhD in international law at Bonn University in 1975. She most recently served as president of the Federal Office of Economics (an agency under the German Federal Ministry of Economics and Technology) during 1995-99. Prior to that, she headed the country studies division of the International Energy Agency in Paris in 1991-95. During 1985-91, Kemper worked in the Energy Department of the German Federal Ministry of Economics-including a 4-year term as head of the ministry's electricity division. Earlier in her career she dealt with trade and investment issues in the ministry's General Directorate for External Economic Relations, completing a 4-year assignment seconded to the German Foreign Ministry as First Secretary (Commercial) in the German embassy at New Delhi, India.
Energy Charter Treaty elements in place
The Energy Charter Treaty (ECT) was signed in 1994 and entered into legal force in 1998. To date, 51 European and Asian states, including Russia and all the other former Soviet Union states, have signed it or acceded to it.
The ECT, developed on the basis of the European Energy Charter of 1991, is a legally binding, multilateral instrument, the only one of its kind dealing specifically with intergovernmental cooperation in the energy sector. Its fundamental aim is to strengthen the rule of law on energy issues by creating a level playing field of rules to be observed by all participating governments in relation to energy trade, transit, and investments.
Charter Conference
The Energy Charter Conference is an independent intergovernmental organization that serves as the governing and decision-making body for the Energy Charter process.
All states that have signed or acceded to the treaty are members of the conference, which meets on a regular basis-normally twice a year-to discuss policy issues affecting East-West energy cooperation, to review implementation of the provisions of the ECT, and to consider possible new instruments and projects on energy issues.
The Secretariat
The conference is served by a permanent Secretariat based in Brussels. The Secretariat is staffed by energy sector experts from various countries of the charter's constituency and is headed by a secretary general-since 2000, Ria Kemper of Germany.
