Israel struggles to land the Leviathan

Feb 17, 2016 | Or Avi Guy

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Five years ago a massive offshore reserve of natural gas – appropriately named Leviathan – was discovered approximately 170 km. off the Israeli coast, approximately 4.5 km. underwater. Since then, attempts to tap into the gas field have stalled, as new challenges emerged at each step of the way.

The key players in the story are the Israeli government and the two companies with which it has been negotiating about the future of the gas find, Noble Energy, an American company from Houston and the Delek Group of Israel (along with their more minor partners Ratio and Avner). Other stakeholders include not only the Israeli public, but also other countries in the Eastern Mediterranean, whose energy markets are being influenced by the discovery and plans to develop this gas field.

While the story of Leviathan is long and complex, and at times the legal complications and the limitations posed by Israeli regulatory practices are hard to follow, there are two main important factors that affect the development of the gas field: regional developments and domestic challenges.

The key questions regarding Leviathan’s gas potential remain unanswered and unresolved: who will extract and sell the gas? How much should be exported and how much should be used domestically in Israel? At what cost? How much can Noble and Delek charge to sell Israel back its natural gas? How much can they export internationally? Who would be the clients – Israel’s neighbours Jordan and the Palestinian territories, other countries in the region, or even Europe?

Regional developments

Recently, deals with Turkey, Greece and Cyprus have been concluded to create an international pipeline to transport the gas. Last January, Israel, Cyprus, and Greece announced discussions on a pipeline running from Israel to Cyprus and then to Greece and Europe. The prospect of such an arrangement, it was suggested, may have even incentivised Turkey not only to repair its relationship with Israel, but also to try and settle its dispute with Cyprus, in order to allow for another, Israel-Turkish, pipeline to cross Cypriot territory.

In December a diplomatic breakthrough between Israel and Turkey was reached during secret talks in Switzerland, which led to resumption of normal relations between Turkey and Israel. After the talks Turkish President Erdogan even reportedly stated that “Israel and Turkey need each other.”

From Israel’s perspective, Turkey can offer another outlet for new energy markets through the construction of a pipeline – something initially planned years ago but never implemented.

From Turkey’s perspective, the Syrian civil war, and Iran’s and Russia’s intervention have created new geo-political realities in the region. The Russian intervention in particular led to deterioration in relationship between the two countries, and also affected Turkey’s energy plans. An agreement was struck in late 2014 between Russia and Turkey to build a new pipeline, Turkish Stream, and work commenced in 2015. This pipeline is seen as an element of a larger plan to make Turkey the hub of natural-gas distribution, running from Russia and central Asia to southern Europe. In addition to Turkish Stream the plan included construction of a pipeline under the Caspian Sea and another connecting Turkey to the gas fields of Azerbaijan. Yet as a consequence of the Syrian civil war, Turkey’s energy aspirations now face new and significant challenges, and Ankara had to start looking for other avenues and new partners.

The proposed pipelines in the Eastern Mediterranean could be used not only to transport gas from Leviathan to Europe, but also to transport gas from other gas fields and reserves that have been discovered in the region – in Cyprus (the Aphrodite gas field was discovered in Cypriot water by Noble Energy in 2011) and Egypt. This would greatly influence the development of a local gas market. In August the Italian energy company ENI announced the discovery of the Zohr gas field in Egyptian waters, which is said to be both larger and more easily accessible than Leviathan. ENI even predicted that it could begin producing natural gas at least two years ahead of Leviathan. This discovery meant that developing a regional policy for gas exports has become even more pressing and crucial for Israel, as well as to its neighbours. An Israeli-Turkish, or an Israeli-Cypriot-Greek pipeline could potentially also become the conduit for Egyptian and Cypriot gas.

While these discussions initially ensured that there were international markets for Israel’s gas, Cyprus’ national gas company (DEFA) cancelled its tender for gas supply from the Leviathan gas field due to failure to reach understandings about the details of the natural gas supply deal. In practice, reports suggest that Cyprus concluded that gas-based electricity production would only lead to 1% savings in the cost of electricity, while the cost of laying down a gas pipe on the bottom of the Mediterranean could reach US$1 billion dollars. Instead, Cyprus has been negotiating with Noble Energy to tap into the gas supply in the smaller Aphrodite reserve.

However, last, month Netanyahu met with senior Greek and Cypriot government officials, which could restart negotiations on sending Leviathan gas to either country.
Moreover, there are other strategic challenges looming, following gas finds off Lebanon and Gaza, efforts by both, as well as Turkey, to dispute the regional maritime boundaries, and the threat of terrorist violence against Israel’s gas infrastructure from both Hezbollah and Hamas.

Domestic challenges

While internationally, the main goal was to find new markets for Israeli gas and financially-viable production and transport solutions, domestic challenges are focused mainly on the public opposition and legal obstacles the Israeli Government faces in trying to pass a “gas framework”. The dilemma, simply put, is how to develop the gas resources in a way which maximises Israeli interests – amid little agreement in Israel about how to do this. In addition to environmental concerns and different cost-benefit assessments of the development proposals (some of which require major financial investment by Israel before any benefits accrue,) concerns were raised that the main beneficiaries of these investments would be Noble and Delek, rather than the Israeli public. Indeed, many commentators and opposition figures in Israel charged that the initial deal signed with Noble Energy in 2005 was skewed in favour of the energy companies, at Israel’s expense.

Distrust in the energy companies, and more importantly the government, which was seen to align itself with their interests, was expressed by many in Israel. It was not relieved even after a special commission ruled in 2010 that the government’s royalties in the deal should be raised from 20% to 52-62%.

While Noble Energy and Delek accepted these new terms, Australian energy company Woodside pulled out of participation in the development of Leviathan saying it has failed to reach a “commercially acceptable outcome”. (In addition to the changing commercial terms, at about the same time it became clear that exports via LPG – Liquefied Petroleum Gas – would not be a major part of the project. Since this is Woodside’s particular area of expertise, this also partly explains its decision to withdraw from involvement.)

Even with the compromise reached on taxation and royalties, other questions remained unanswered, in particular whether, or how much, of the gas will be sold overseas, and how much would be used domestically in Israel? The concern here is that, to maximise their profit, Noble and Delek would try to sell as much of the gas as possible overseas at a higher price, while the Israeli public would continue to consume other more expensive and polluting energy sources. In 2013, the Israeli cabinet voted for a 60/40 ratio for allocating gas production between domestic use and export. This vote, while approved later that year by the Supreme Court, nonetheless was met with public disapproval by many.

Another concern raised was that even if sold domestically, the conditions of the deal struck with the government might create a gas monopoly, which would lead to high gas prices, and limit Israel’s capacity to regulate the gas market. Israel’s Anti-trust Authority ruled that to allow Noble and Delek to bid on or sign contracts for developing Leviathan would violate the country’s laws banning monopolies. A political and legal battle began, as the government tried to remove the obstacles created by the Anti-Trust Authority and find a political solution to allow the gas framework and development plans to move forward. In May 2015, the head of the Anti-Trust Authority resigned, having realised that his ruling would likely be overturned by the government. Shortly thereafter, a tentative deal was struck with Noble Energy and Delek, allowing them to bid on the Leviathan field, and in December, Netanyahu reached a final deal with Noble Energy, despite Knesset opposition.

In order to overcome the rulings and limitations imposed by the anti-trust authorities, Netanyahu decided to invoke Article 52 of Israel’s Restrictive Trade Practices Law that permits the government to circumvent a decision of the antitrust authority in a matter of pressing ‘national interest’. Netanyahu, determined to move on with the gas framework, declared that the gas “was awarded to us as a gift from God,” and could make Israel “an important power in the international theatre.”

But his legal troubles did not end there. Numerous appeals were served to the Supreme Court, challenging the move, and arguing that a sufficient special security or national interest justification was not yet provided to merit the use of such an extreme measure.

Facing this wave of appeals, Netanyahu even filled a personal affidavit to Israel’s Supreme Court, in which the tried to claim that resolving the stagnation in the development of the Israeli gas market is vital to Israel’s foreign policy and security interests. On Sunday, Feb. 14, Netanyahu even appeared in court himself. It was the first time in the history of Israel that a prime minister appeared in the Supreme Court to represent the government in an appeal. Netanyahu tried to warn against what he perceives as the threats to Israel, and the possibly catastrophic consequences it might face, if the gas framework is not approved. He spoke of the distrust of foreign companies and investors in dealing with Israel, of the importance of the gas market and the impact of stagnation on regional relations, especially with Jordan.

While the court has not yet reached a final ruling, some of the judges in the panel, while receptive to Netanyahu’s arguments, questioned whether the current gas framework could be approved without legislation. Particularly at issue was the “stability clause” in the agreement between Israel and Noble Energy, which provides the gas companiea with guarantees that there will be no changes to the agreements through regulation or legislation for the first ten years of development and gas production.

If the judges decide that in order to approve the gas framework with a stability clause, which would be binding on future governments as well, the government has to rely on legislation, not only a government decision, the framework will be sent back to the Knesset. This means the long story of Israel’s efforts to land the economic and strategic benefits of Leviathan may be far from over.




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