The Race for Arctic Resources: American Ambivalence, Russian Rhetoric, and a Canadian Comeback

By Gene Puerta, Staff Writer

The layer of ice that covers the Arctic Circle is melting, causing the nations that border it (Canada, Russia, Norway, Denmark, United States, Iceland, Sweden and Finland; all members of the Arctic Council) to tap the Arctic’s natural resources. But there are other factors at play: For some, this race is partly fueled by national security concerns; and for others, a chance to stake long held territorial claims.  In a race for resources, all of these Arctic nations are doing their best to achieve the pole position by granting companies’ rights in territory already claimed, advancing scientific findings, or by conducting military operations in the Arctic Ocean region. Even China, a nation that does not even border the Arctic, wishes to participate in this race, arguing that the resources under the North Pole are “the inherited wealth of all humankind.”

The race begins. A recent search for “Winning the Arctic Race” on Google (as of 20 September, 2012) offered just over 68 million results.  Upon investigation, this plethora of search results indicates that there is a race for resources under way in the Arctic Ocean and that, depending on the nationality of the information source, Canada is either in the Arctic Race to win it (by annual displays of military strength) or lags behind Russia and the United States.  The articles vary widely on the state of the race for resources in the Arctic, with Der Spiegel (quoting a USCG Admiral) that the United States is dead last in the Arctic race; while other sources like Forbes's Matthew Hubert, think that the U.S. is in a better position than Russia because U.S. oil companies are “sitting pretty” when the time comes for natural resource extraction.  Moreover, various news articles report that even China, a non-Arctic nation, is clamoring for a spot before the starting gun goes off.

According to a 2011 report by the Wall Street Journal, Canada is warming up for an aggressive display of control over the Arctic Circle.  Canada’s Arctic push, propelled by displays of military capability, is feasible only as long as Canada can back up its intent with the considerable financial resources needed to build infrastructure in the Arctic’s remote and challenging environment.  The economic value of the Arctic Circle can be found by companies willing to venture into an area that requires not only a particular technical know-how, but extensive financial investment as well.  Companies that are willing to undertake such investment have a losing track record when it comes to extracting the various non-renewable resources under those cold waters (just ask Russia’s nationally-owned Gazprom or publicly-traded Shell Oil).  But the Arctic's harsh environment, which offers up polar ice caps that shift dramatically with the changing seasons, sheets of ice that drift along with the tides, and extreme operating temperatures, mean the costs of merely preparing to tap the Arctic's energy resources can go into the billions.  And then there are concerns over the region lacking the major seaports necessary to both spur further Arctic development and contain spills similar in scope to Deepwater Horizon (the most recent oil leak off the coast of Louisiana).

US takes the lead and stumbles.  As of September 2012 the current US efforts have been stalled by ice floes, fall whale hunts, and underwater dome repairs.  Shell Oil has invested a total of U.S. $4.5 billion into developing the Chukchi Sea region (just north of Alaska).  Shell's investment in the American Arctic shows that the United States plans to use corporate partners to take the lead in the Arctic race, even though not one drop of oil has been extracted.

The Russian and Canadian long game.  The view of the Russian Foreign Ministry, U.S. oil companies and the expanding domestic American shale oil market may be beating Russian nationally-owned corporations in the Arctic race.  But Russian claims to significant swaths of Arctic territory matter most, in the long run, to the success of Russia’s Arctic strategy. Russia believes that territorial claims are more valuable than a company exerting its economic actions over an area.  Canada seems to be, literally, left out in the cold with regards to its efforts to develop the Arctic’s remote and challenging climate, efforts which require major infrastructure upkeep costs.  But Canada is trying to make up for this through a beefed up military presence, a noticeable omission from a recent Forbes article written by Matthew Hulbert.  Mr. Hulbert concludes that because the big oil corporations (like Italy’s ENI making its presence known north of Norway) and nationally owned companies (owned primarily by China and Russia) are doing their best to position themselves in the Arctic, the U.S. has the gold, Europe the distant silver, and Asia the bronze in the Arctic race.  Russian claims to the Arctic and Russian Tu-95 bomber flights aside, it seems that Russia owning a bigger share of the circle will not be enough for Putin and Co. to compete in the Arctic race.  Though, in the long run, Canada and Russia may actually have the upper hand.  Russia's icebreakers and territorial claims will likely serve as a force multiplier.  And Canada’s increased military presence will protect any investments in their vast territory of Nunavut.

An uncertain Arctic finish.  There are several opinions (stretching back to 2009) that predict that the end result in the Arctic has already been decided:  big Arctic players (the United States, Canada, and Russia) have “agree[d] to disagree” about certain boundaries in the Northwest Passage, while the smaller players (Denmark, Norway, and economically, Russia) stake their continental shelve claims to the United Nation’s Convention on the Law of the Sea:

There is no ‘endgame’ in the Arctic. Cooperation – not conflict – is the more accurate paradigm. With the exception of Hans Island, there are no sovereignty disputes over land in the Arctic. The unresolved differences concern a) coastal state jurisdiction over shipping in the Northwest Passage, b) the delimitation of maritime boundaries in the Barents, Beaufort and Lincoln Seas, and c) the extent to which each of the five Arctic Ocean countries has sovereign rights over the continental shelf more than 200 nautical miles from its shore.

There is no great cause for concern. Canada and the US have “agreed to disagree” over the Northwest Passage while cooperating on maritime surveillance and pollution prevention. They – along with Denmark, Norway and Russia – have also agreed that overlapping continental shelf claims will be resolved according to the rules in the UN Convention on the Law of the Sea.

Canadian resolve pushes forth a militaristic footing.  Does Ottawa have what it takes to secure its Arctic claims?  Canadian Prime Minister Stephen Harper thinks so.  His three day “arctic sovereignty tour” is aimed at quelling any Russian claims in the Arctic Ocean.  And just last month, Canadian Foreign Minister Peter Mackay stated Canada's intent to placed in the Arctic race's pole position:

"There is no question over Canadian sovereignty in the Arctic. We have made that very clear. We have established, a long time ago, that these are Canadian waters and this is Canadian property," said Mackay. The Canadian prime minister's trip, which involves stops in half a dozen communities in Canada's far north, is intended to reinforce Ottawa's claim to more than 1.2 million square kilometers of Arctic seabed.

Prime Minister Harper does not intend to lose the Arctic race; rather, he intends to win the Arctic race by using a three prong approach:  (1) making territorial claims according to the UN Convention on the Law of the Sea, (2) highlighting scientific findings that find Canada’s continental shelf extends far into the Arctic Circle and (3) launching Canadian expeditions such as Operation Nanook.  Since 2010, Canada has been participating in annual “sovereignty operations” such as Operation Nanook in the Arctic to show the international community that Canada has an interest in maintaining control over the Arctic Circle, an interest Ottawa has also expressed by not placing a moratorium on oil exploration.

A lumbering start.  For an area of the world that is literally heating up, the marathon race for Arctic resources is off to a slow start.  With non-renewable energy sources becoming more scarce and subject to hikes due to war, demand, and natural disasters, the Arctic Circle has become a focal point for resource hungry nations.  However, the race for natural resources is not without projected environmental risk.  Furthermore, only the nations that are willing to put forth the considerable military, infrastructure, and other financial investments can hope to win the Arctic resources race.  The Russian and Canadian Arctic strategies seem to rest upon how far their continental shelf extends and how many military operations they can execute until they have the capital necessary to fortify their Arctic infrastructure.  This is especially true of Russia, where companies are either experiencing cost overruns or simply waiting to see how Shell performs north of Alaska.  Despite the setbacks experienced by Shell Oil, the U.S. is currently leading the way, albeit by nary a hair, for not one well has been tapped by the U.S.-based subsidiary in the cold waters of the Northwest Passage. 

CNOOC’s Nexen Bid & “Net Benefit” Test: What the Legal Test Betrays About Canadian Politics and the Harper's Economic Agenda

By Eskor Edem, Staff Writer 

A Chinese state-owned company, CNOOC, wants to take a controlling interest in Canadian energy company Nexen. The hang-up? The bid must satisfy the “net benefit” requirement that Canadian law imposes on all foreign direct investments exceeding C$299 million. Critically, while the “net benefit” test is—on paper—a six-pronged legal test, a political figure—Minister of Industry and member of the Stephen Harper cabinet member Christian Paradis—applies the test. Thus, political, not the legal, factors will likely determine if CNOOC’s bid passes the net benefit test. CUSLI-Nexus staff writer Eskor Edem reviews the “net benefit” test, identifies the three political factors critical to Mr. Paradis’ decision, and concludes that CNOOC’s bid will likely pass the “net benefit” test. But that won't be the end of the story:  the CNOOC bid still has other administrative hurdles to clear.

“Net Benefit” Test

Although established as statutory law, the “net benefit” rule is really more a political test allowing the seating administration the block foreign investment injurious to its policy vision. Under the Investment Canada Act transactions are reviewable when they exceed the threshold of C$299 million. The final decision of whether a transaction is a “net benefit” is made by the Minister of Industry. As the Minister is an appointed political position, the economic policy of the governing party plays a prominent role in reaching an answer to the “net benefit” question. In determining whether foreign direct investment is a “net benefit”, the Minister of Industry considers a number of factors related the potential economic and cultural impact of the investment. The economic factors weighed range from the potential impact on domestic jobs, the participation of Canadians in the venture, and the impact on Canada’s global competitiveness. Cultural factors can be seen as a catch-all for a range of politically sensitive, non-economic topics—like a foreign investment’s impact on Canada’s indigenousness population, the First Nations. 

Lessons from Canada’s “Net Benefit” Rejection: BHP Billiton and Potash

In 2010, then Minister of Industry Tony Clement rejected BHP Billiton’s proposed hostile takeover of the Canadian mining company PotashCorp. The negative impact of BHP’s proposed takeover on Saskatchewan’s mining economy was the determinative factor in Minister Clement’s rejecting the bid on “net benefit” grounds. Saskatchewan is home to 1/3 of the global potash market. Naturally, this means that the government derives significant revenues from potash mining companies—15% in 2008. But the province also plays a critical role in potash pricing: with a Canadian industry body, Canpotex, the sole distributor for Canadian potash that is marketed outside North America. Canpotex’s exclusive control over the marketing of Canadian potash provides price stability on which Saskatchewan can rely in estimating its future revenue stream. 

PotashCorp. made up 54% of Canoptex’s output at the time of BHP’s bid to acquire it. As such, BHP’s insistence that it would take PotashCorp. out of Canoptex would have dealt a significant, if not fatal blow, to Saskatchewan’s influence on the price of potash on the international market. Opening up Canada’s potash market posed a serious threat to the Canadian economy and, perhaps more importantly, Saskatchewan’s finances. A law firm advising the Province on the matter in Jan. 2011, Jones Day found: 

[T]here was a risk of significant job losses by other Canadian potash manufacturers as a result [of] BHP’s plans to run its Jansen mine “flat out” and its threatened departure from Canpotex… Saskatchewan could [have] los[t]up to CAN $6 billion in tax revenues if BHP operated PotashCorp mines at full capacity.

Independent marketing could have potentially resulted in the (1) the loss of price setting abilities which the province had enjoyed to date; (2) a significant decline in the potash prices largely due to BHP’s level of production; and (3) a significant decline in tax revenue. 

Given the high level of public disapproval of the takeover, approving BHP’s bid carried significant political down side for the Harper administration. On top of public disapproval, Conservative provincial officials voiced their avid resistance to the transaction. In making their case against BHP, provincial officials argued that an “increasingly strategic” resource required maintaining Saswatchan’s influence over global potash prices. According to some, approving BHP’s takeover held the potential of reducing Canada’s food and energy security.

The “Net Benefit” Test’s Political Factors and Why CNOOC Passes the Test

A decision in CNOOC’s favor would provide credibility to Prime Minister Harper’s policy of strengthening Canada’s economic ties with Asia. Minster Paradis’ final determination will be guided by Prime Minister Harper’s goal of ensuring Canadian natural gas and oil producers get access to China's growing energy appetite. As such, application of the “net benefit” rule to CNOOC will likely diverge from the strict letter of the law. In reaching his decision, Paradis will likely consider three political factors:  (1) the nature of the targeted company; (2) The level of provincial support for the CNOOC’s acquisition; and, (3) the possibility of greater market access for Canadian firms operating in China.

Unlike Potash, Nexen is not uniquely dominant in Canadian industry. Nexen only ranks as a middling player in Canada’s oil and gas sector. John Manley, a former Liberal Minister of Industry, made clear if a larger Canadian oil and gas company was at stake, the government would be likely to block a takeover bid on “net benefit” grounds, in this Bloomberg Sept. 2012 article:

‘[If Suncor were the target company]…you would have a different set of questions being asked, simply because of [Suncor’s] scale and…importance in the Canadian context,’…Suncor is Canada’s ‘biggest independent, and that puts it in a somewhat different category.’

CNOOC’s takeover of Nexen does not threaten Alberta’s finances. Unlike the Potash market, in which Canoptex plays a price setting function, factors inherent to the oil and gas markets prevent any single player from determining market prices. In the oil and gas market prices are largely set by supply and demand, with spontaneous political events playing an influential role in short-term price volatility. As such, Alberta does not have the ability to set the market price its oil and gas producers get for their output. Hence, in this regard CNOOC’s acquisition of Nexen will not affect Alberta’s royalty stream; thus, CNOOC’s bid avoids a major point of contention in BHP’s bid.

Furthermore, unlike the Potash bid, the provincial government of Alberta supports CNOOC’s bid. During a recent interview, Alberta’s Premier Alison Redford spoke favorably of CNOOC’s acquisition of Nexen, stating:

At the end of the day, our view is that if this is in Alberta’s interest, it should go ahead. And we think there’s a lot of benefit for Alberta and Canada in this deal.

And in discussing CNOOC’s bid, public commentators have stressed a potentially large up-side for Canada if the bid is approved: If Canada grants China market access within the energy sector, other Canadian companies may find it easier to get access to the burgeoning Chinese marketplace. As reported by the Wall Street Journal, DBRS debt rating agency has found:

‘This transaction would dramatically improve Canada-China relations, which could in turn provide greater economic trade between the two countries.’…add[ing] that approval could also open the door for Canadian businesses in China.

And, obviously, CNOOC’s Nexen bid would strengthen energy ties between China and Canada. Given Canada’s unease with the Obama administration’s reluctance to approve the Keystone XL project, laying the foundation for substantial growth in Sino-Canadian energy trade has become a major policy objective of the Harper administration.

Conclusion

The CNOOC bid, albeit not without some belly-aching, is very likely to pass Canada’s “net benefit” test. First, while superficially a 6-pronged legal test, the “net benefit” rule is really more a political test: giving the Canadian government a way to block foreign investment that may compromise core Canadian economic interests. And as BHP’s failed bid shows, the political variables at play are: (1) the size and scope of the targeted Canadian company, (2) support on the provincial level for the acquisition, and (3) the economic rewards of approving the bid. With Nexen a relatively small player in the Canadian oil and gas industry, Alberta’s support of CNOOC’s bid, and the Harper government’s eagerness to open up the lucrative Chinese marketplace to Canadian firms, CNOOC’s bid for Nexen is very likely to clear the “net benefit” hurdle.

News Round-Up

Don't miss out!  Get these headlines and more by following us on Twitter (@CUSLI_Nexus) and Facebook.  And to our loyal social media followers, fear not, there's new stuff to check out below.

Ottawa ordered to hand over long-gun registry data collected in Quebec, The Gazette.  Canada's long-gun registry lives--at least in Quebec pending appeal to the Canadian Supreme Court.  Even though the Conservative government abolished and destroy all data in the long-gun registry.  Why?  In short, the quirks of Canadian federalism.  Learn more about Canada's gun control debate and unique blend of federalism from a leading Montreal publication.

Strategic Shifts:  The Future of Energy, World Economic Forum.  Watch Christy Clark, Premier of British Columbia, talk on the global energy industry landscape with energy experts from America, Japan, and China at the World Economic Forum. 

Liberals says they want a competitive leadership race, 'best thing,' especially if Trudeau enters the fray, The Hill Times.  Trudeau or Bust? Inside the Liberals (or Grits) leadership race-it's looking like a free-for-all--for better or worse.

U.S. boom in oil product spells peril for Canadian crude, The Globe and Mail.  Forget the Keystone kurfuffle! Is  booming U.S. natural gas production the real threat to the Canada-United States energy relationship?

It's the permanent campaign, Harper's team never rests, says Flanagan, The Hill Times.  Have Canada's politics been Americanized?  Tom Flanagan, former top adviser and campaign manager to Prime Minister Stephen Harper, shows how the minority status of previous Conservative governments triggered a state of permanent campaigning in Canada, and how it's not stopped with the Conservatives decisive win at last year's election.  Check out the book that Flanagan contributed to, How Canadians Communicate IV:  Media and Politics.  You can even read the whole book.

Canada's Arctic Strategy

By Keith Edmund White

The development of Arctic Canada could generate mineral, fishing, and tourism revenue to the tune of $1 billion dollars.  Furthermore, Canada's sovereignty and control of the emerging waterways through the Arctic is a source of national pride.  So it's no surprise that Prime Minister Harper has made developing the North a key initiative of his government.  But, when it comes to economic development, will the high costs of developing the Arctic--in combination with other countries own newly appreciated energy finds (read:   North American natural gas) require an Arctic rethink?  In any case, simply developing the North--without carefully planning of each infrastructure and energy project-- could result in Canada actually losing money on its Arctic gamble.

Last week, Canadian Prime Minister Stephen Harper kicked off his seventh trek to the Arctic. If you want to learn more about his schedule, check out this informative Montreal Gazette article. Of more interest, to me, is where Canada’s Arctic strategy stands in 2012.

Press Takes on Harper’s Trek

The Calgary Herald, unsurprisingly, comes out in favor of Harper’s Arctic policies. It highlights the Prime Minister’s push to develop and cement Canadian claims to the Arctic. But, to its credit, the article highlights the current costs of developing its Northern region: totaling $2.9 billion for 112,000 people, and funding 77 – 90% of revenues for Canada’s northern territories (the Yukon, the Northwest Territories, and Nunavut. Of a particular note to me is the article’s mention of opposing U.S. and Canadian claims on the Northwest Passage or Canadian Archipelago—with the US claiming the emerging waterway as an international strait, while Canada would naturally prefer these to be Canadian waters. (For those wanting an exhaustive look at Canada’s Arctic claims, check out the 50+ page Sovereignty & Security In Canada’s Arctic, an interim report by a Canadian Senate Committee).

The National Post used Harper’s Arctic tour for discussion on the Polar Bear, probing two questions: (1) whether the polar bear should replace the beaver as Canada’s national symbol, while (2) delving into how Canada patrols its frontier region:

The roughly 4,700 Rangers — sprinkled in 178 communities across the North — are the backbone of the military’s presence in the region.

They conduct patrols across the vast frozen wasteland and are equipped with Lee-Enfields, bolt-action, magazine-fed rifles that were standard issue during the first half of the 20th century.

The Winnipeg Free Press provides a useful counter-weight, highlighting the failure of the Mackenzie Valley Gas Pipeline, a project that has found itself falling prey to the Arctic’s “obvious economic handicaps” of remote from other Canadian industrial centers. Read the section below, or the article, to learn a few more details of the project and the project’s impact of Canadian environmental policy, but the economic message can be summed up in short: Developing the energy-rich Arctic is expensive, and with Canada just one player among many, costly infrastructure projects can go belly-up without careful planning. 

From the Winnipeg Free Press:

The Mackenzie Valley Gas Pipeline project of Imperial Oil and others is one of Canada's greatest unbuilt infrastructure projects. After years of investigation and litigation over aboriginal title and further years of environmental review, the project won National Energy Board approval in 2010. It is not being built, however, because U.S. oil and gas exploration companies have found ways of extracting great volumes of natural gas that were previously not recoverable. In the present glutted natural-gas market and low natural-gas prices, the expense of the Mackenzie Valley line is difficult to justify.

Northerners eager to see the Mackenzie Valley line built believe it was killed by too much environmental review. The Harper government agreed and changed the National Energy Board Act to allow itself to set limits to environmental review and speed up approval. The three-member panel studying Enbridge Inc.'s proposed Northern Gateway gas pipeline from Alberta to the Pacific Coast is now operating under the government's tighter timeline.

But it is just as reasonable to conclude that the Mackenzie Valley line is a technically good project that just has to wait until somebody needs the gas badly enough to pay for construction of the line. Environmental review didn't kill a good project -- it delayed an unnecessary project. If the Mackenzie Valley line was reaching completion today, it might stand idle for want of buyers for the gas. The investors would be stuck with an engineering marvel that lacks, for the moment, an economic purpose.

Some Arctic Basics & Grading Canada's Arctic Push 

First, just so readers can be hip to Canadian political lingo, Harper announced, in 2009, a four-pillar strategy for Canada Great White North: (1) asserting sovereignty, (2) protecting the environment, (3) promoting social and economic development; and, finally, (4) improving and devolving Arctic governance. The main focus on this posting is on that third aspect—economic development.

Canada is making serious investments in Arctic infrastructure. As detailed in a 2011 Library of Parliament research paper, Canada has spent over $720 million to procure icebreakers; gotten new patrol ships; spent $17 million to establish commercial fisheries in Nunavut; and $100 million “to establish a deepwater port in Nunavut” for its security forces. These are the backbone projects of Harper’s push to develop the Arctic. Should these projects continue and be completed, they could begin the long process of making the Northern territories closer to self-sufficiency (though, Canada should probably use U.S. subsidization of Alaska as a more attainable goal). 

So, without getting into the weeds, how is Canada doing in its Arctic project? Well, according to YahooNews, not that great: “While Prime Minister Stephen Harper and Defence Minister Peter MacKay continue to insist Canada is no slouch in the Arctic, other countries’ Arctic strategies seem to be bigger, stronger and faster.” Reporter Andy Radia then points out that the United States is revving up submarine patrols of the Arctic, Russia is spending over $100 billion on 16 new nuclear submarines, some of which will be patrolling the Arctic, and Sweden and Norway may be in on the Arctic gig too.   

But this focus on whether certain waterways in the Arctic will be Canadian waters or international waters misses the (snowy) forest for the trees.  Canada will never out-militarize Russia or the United States, but Canada has already turned the land and waters of the Arctic into an emerging hotbed of economic activity.  The question is, is even further development worth the public infrastructure costs--let alone the costs of providing security to a no-longer mythical Northwest Passage.

There are three key areas where Canada can develop oil and natural gas: the Mackenzie Valley, the Arctic Islands, and the Mackenzie Valley/Beaufort Sea. A 2012 Lloyd’s of London report found that there’s possibly $100 billion to be made in the Arctic for minerals, fisheries, shipping, and tourism. But the report notes that the extreme weather requires strong public infrastructure investment, effective regulatory control, and greater data-collection on the dangers and benefits of Arctic development. 

The U.S. Energy Information Administration (E.I.A.) sums up the "goods news, bad news" of Arctic economic development:

The Arctic presents a “good news, bad news” situation for oil and natural gas development.  The good news is that the Arctic holds about 22 percent of the world’s undiscovered conventional oil and natural gas resources, based on the USGS mean estimate.  The bad news is that: (1) the Arctic resource base is largely composed of natural gas and natural gas liquids, which are significantly more expensive to transport over long distances than oil; (2) the Arctic oil and natural gas resources will be considerably more expensive, risky, and take longer to develop than comparable deposits found elsewhere in the world; (3) unresolved Arctic sovereignty claims could preclude or substantially delay development of those oil and natural gas resources where economic sovereignty claims overlap; and (4) protecting the Arctic environment will be costly.  The high cost and long lead-times of Arctic oil and natural gas development undercut the immediate importance of these sovereignty claims, while at the same time diminishing the economic incentive to develop these resources.

...

The bottom line for Arctic oil and natural gas potential is that high costs, high risks, and lengthy lead-times can all serve to deter their development in preference to the development of less challenging oil and natural gas resources elsewhere in the world.  Also, the less abundant Arctic oil resources will be more readily developed than the Arctic’s natural gas resources.  Thus, while the Arctic has the potential to be a more important source of global oil and natural gas production sometime in the future; the timing of a significant expansion in Arctic production is difficult to predict.       

Conclusion:  Canada and the Arctic

Undoubtedly, the Arctic holds great economic potential for Canada, as well as other Arctic nations. But if Canada fails to push prudent development, it may find itself paying for extensive Arctic infrastructure while finding the promise of Arctic profits a mirage.