Territorial Feud To Keep Deepwater Dreams In Check

BMI View : China's bold incursion into the disputed waters of the South China Sea is reigniting tensions with Vietnam. Given the high military risk involved, it is likely that China National Offshore Oil Corporation (CNC)'s deepwater exploration will be cut short and these waters will remain untouched, until a political settlement between the claimants of the South China Sea is made. Until then, there will be a de facto moratorium on upstream activity in these disputed waters.

China's unilateral decision to put an oil rig in disputed waters in the South China Sea has reignited territorial tensions with Vietnam. In early May, Chinese state-owned China National Offshore Oil Corporation (CNC) moved its deepwater CNC 981 rig to an area near the Paracel Islands, which Vietnam claims to be within both its Exclusive Economic Zone (EEZ) and continental shelf under the 1982 UN Convention on the Law of the Sea (UNCLOS). China has maintained its legal right to drill in what it deems as its waters, while Vietnam has condemned China's actions.

At the time of writing the dispute had escalated, with a Chinese vessel having reportedly rammed into two Vietnamese Sea Guard ships and deployed water cannons, injuring six Vietnamese crew members in the process. The situation looks set to intensify unless China retreats, given that other South East Asian countries are also involved in the South China Sea dispute and are likely to back Vietnam against perceived Chinese aggression.

Waters Of Contention
Map Of The Disputed Areas In The South China Sea

Territorial Feud To Keep Deepwater Dreams In Check

BMI View : China's bold incursion into the disputed waters of the South China Sea is reigniting tensions with Vietnam. Given the high military risk involved, it is likely that China National Offshore Oil Corporation (CNC)'s deepwater exploration will be cut short and these waters will remain untouched, until a political settlement between the claimants of the South China Sea is made. Until then, there will be a de facto moratorium on upstream activity in these disputed waters.

China's unilateral decision to put an oil rig in disputed waters in the South China Sea has reignited territorial tensions with Vietnam. In early May, Chinese state-owned China National Offshore Oil Corporation (CNC) moved its deepwater CNC 981 rig to an area near the Paracel Islands, which Vietnam claims to be within both its Exclusive Economic Zone (EEZ) and continental shelf under the 1982 UN Convention on the Law of the Sea (UNCLOS). China has maintained its legal right to drill in what it deems as its waters, while Vietnam has condemned China's actions.

At the time of writing the dispute had escalated, with a Chinese vessel having reportedly rammed into two Vietnamese Sea Guard ships and deployed water cannons, injuring six Vietnamese crew members in the process. The situation looks set to intensify unless China retreats, given that other South East Asian countries are also involved in the South China Sea dispute and are likely to back Vietnam against perceived Chinese aggression.

CNC had planned to conduct exploration from May 4 to August 15. However, the military threat involved in persisting with its plans will likely cut short its venture. This incident will also likely serve as a warning to CNC against going against the status quo, at the expense of its deepwater ambitions for the South China Sea.

Deepwater Risks

CNC's move down south of the South China Sea should be seen in light of its growing offshore operations as it seeks to tap into its waters to support oil and gas production. Its latest discovery - Lingshui 17-2 - was a deepwater gas find located in the South China Sea within the Qiongdongnan Basin, which spans into the disputed area claimed by Vietnam.

Indeed, the South China Sea could possess as many hydrocarbons as China's onshore shale formations, which the US Energy Information Administration (EIA) estimates could hold some of the world's largest technically recoverable oil and gas resources. According to Chinese estimates, the South China Sea could have 56trn cubic metres (tcm) of gas-in-place and 213bn bbl of oil-in-place. Assuming a 40% recovery rate, this will still be able to able to meet about 80 years of Chinese gas consumption at about 300 bn cubic metres (bcm) per year. The US Geological Survey is less optimistic and estimates that the South China Sea could hold 28bn bbl of oil resources. The lack of exploration in the waters, as unsettled sea claims hinder commercial upstream activity, means that there could be upside risk to these estimates.

Estimates For Resources In The South China Sea
Oil (bn bbl) Gas (tcm)
US Geological Survey/Foreign Sources 28 -
Chinese Sources 213 56
Source: USGS

Countries laying claims to the South China Sea have sought to skirt sensitive territorial issues by limiting activities to uncontested areas of the waters. This was supposed to be reinforced by the 2012 Declaration on the Conduct of Parties in the South China Sea signed by China and other South East Asian claimants - the Philippines, Vietnam, Indonesia, Brunei and Malaysia - as part of the Association of South East Asian Nations (ASEAN). For example, much of the South China Sea exploration conducted by CNC has been in the Pearl River Basin near Hong Kong.

Waters Of Contention
Map Of The Disputed Areas In The South China Sea

However, as energy consumption picked up, countries have been taking more risks by parcelling and handing out blocks in disputed areas for commercial oil and gas activity in a bid to shore up their resource base. The Philippines offered two blocks near the disputed Scarborough Shoal in its 2012 licensing round, which China responded to by sending a naval vessel into these areas as a signal to potential bidders of the risks involved in participation. Vietnam also apportioned blocks in waters around the Paracel Islands to oil and gas firms, though no exploration work has yet been conducted.

Staying Away From Troubled Waters

The industry has mostly been lukewarm to block offers in disputed areas, with large players noticeably absent. There are concerns that stepping on the toes of China could see them barred from activities in the large Chinese market. In 2012, Indian oil company ONGC Videsh pulled out of Block 128 in Vietnam's Nam Con Son Basin on the pretext of it being 'economically unviable'. China had voiced concerns against ONGC's participation in this block on a Vietnam-granted licence, as it deemed the concession to be within Chinese territory.

The standoff between China and Vietnam over the deployment of CNC 981 further highlights that upstream activity in disputed areas of the South China Sea is strictly off limits. Regardless of the political outcome of the ongoing dispute, a de facto moratorium will remain in place as long as the legal claims to the South China Sea are unresolved.

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