Transit of oil through the Baku-Novorossiisk pipeline continues to be a problematic affair. Since the beginning of the month, the pipeline has been shut down three times. The reasons given are the age of the Russian section of the pipeline and defects in its reconstruction as well as theft of oil along the Chechen part of the route. Although the Azerbaijan International Operating Company (AIOC) says it intends to continue cooperation with the Russian oil pipeline operator Transneft to use the route, the decision to seek other routes such as Baku-Supsa seems now well justified. However, it is clear that Baku-Supsa can only be a temporary bypass in its present state and that the early oil pipeline is unlikely to satisfy all export needs even if upgraded and expanded.

Consequently, negotiations on the Baku-Ceyhan pipeline continue to plod along in workmanlike fashion. The Istanbul Protocol, signed in April to forestall delay during the political transition and installation of a new government in Turkey, envisions an intergovernmental agreement, a host-government agreement and a Turkish guarantee as to the maximum cost of the pipeline. The U.S. official spearheading the effort, Richard Morningstar, hopes that negotiations will culminate in success by July. Once this legal framework is set in place, feasibility studies and a financing package would follow.

According to negotiators, the recent progress on Baku-Ceyhan is the result of oil companies’ recognition that sending tankers through the Turkish Straits is not a long-term option. A better explanation may be that Turkey has been able to go some distance towards capping the liability of foreign investors for the construction of the Baku-Ceyhan pipeline. Indeed, the agreement between Azerbaijan and Turkey sets the cost of constructing the Baku-Ceyhan pipeline (with a capacity of 50 million tons per year) at US$2.4 billion, significantly closer to the lower end of the range of estimates.

Moreover, the results of the recent elections in Turkey make it easier to implement legal revisions (possibly requiring even constitutional changes) allowing investors to repatriate profits and permitting certain changes in the structure of the Turkish electricity production industry described in this space last month. Undoubtedly, another factor of equal weight is the fact that construction of a segment of the Caspian Pipeline Consortium (CPC) oil export line from the Tengiz field in northwestern Kazakhstan to Novorossiisk across southern Russia is actually scheduled to start this month.

Meanwhile, another pipeline project–this one envisioning the transport of natural gas from Turkmenistan on the eastern shore of the Caspian to Turkey through Azerbaijan and Georgia–is under advanced negotiations. It is still necessary to set in place the taxation schemes, foreign exchange rules and dispute resolution mechanisms before this contract will come to fruition. According to the most optimistic estimates, the pipeline would begin operating in 2002 or 2003.

However, the fate of this project might depend upon agreement between Turkmenistan and Azerbaijan on the division of disputed Caspian oilfields. That in turn would require political accord at the highest level, between Presidents Heidar Aliev and Saparmurad Niyazov. But the former’s hospitalization, first in Turkey earlier this year and then for an operation in Cleveland during his visit to the United States for NATO’s 50th-anniversary celebrations, highlights the dependence of the American diplomacy upon Aliev personally for the success of its Caspian policy. Azerbaijan still has to implement initiatives ranging from pipelines to privatization, and Aliyev alone holds the power to approve their going forward. He has not decentralized or devolved decision-making power or responsibility since his re-election as president last fall.

Meanwhile, disputes between Azerbaijan and Iran over claims to the Caspian offshore zone continue to fester. Aliyev’s last official act before entering hospital in Cleveland was to sign contracts for exploration of three territories in the Caspian disputed by Iran. The demarcation of zones in the Caspian is still not definitively regulated by international law. Azerbaijan continues to maintain that agreements from the Soviet era in the 1920s and 1940s locate the Iranian zone, but Iran continues to disagree in principle with the idea of dividing the Caspian Sea into national sectors.

However, the Turkmenistani government’s agreement with Baku on the trans-Caspian gas pipeline means that Ashgabat accepts the U.S. contention that there should be no “common” sectors, even in the center of the sea as once proposed by Russia. American law prohibits participation by U.S. companies in any projects that return profit to Iran, such as would be the case if Iran were a stake-holder in a “common” Caspian Sea sector. Kazakhstan once supported the “common heritage” position but now in practice supports the principle of national sectors, as its demarcation of boundaries with Russia in the northern Caspian last year illustrates.

[First published in FSU Oil & Gas Monitor, No. 31 (11 May 1999): 3–4.]