Egypt's Revocation of the Natural Gas Agreement with Israel: Strategic
Implications
INSS Insight No. 332, May 6, 2012
Even, Shmuel
http://www.inss.org.il/publications.php?cat=21&incat=&read=6488

On April 22, 2012, the national Egyptian gas companies, EGAS and EGPC,
announced the revocation of the agreement to supply natural gas to Israel.
The announcement was relayed via the Egyptian company EMG, which has acted
as the liaison between the Egyptian national gas companies and Israeli gas
consumers, chief among them the Israel Electric Company (IEC). In 2010,
Egypt supplied IEC with 37 percent of its gas consumption; in 2011, that
dropped to 18 percent because of attacks on the pipeline in the northern
Sinai Peninsula. The gas was provided to Israel via an underwater line
stretching from El-Arish to the intake facility on the coast of Ashkelon.
The supply of natural gas was one of the few concrete manifestations of
economic ties between Egypt and Israel.

The revoked agreement is a three-way agreement signed in June 2005 with
Egypt’s national gas companies, EMG, and IEC. EMG was established in 2000 in
Egypt by Israeli and Egyptian businesspeople with close ties to the
governments in Jerusalem and Cairo, respectively. Later it sold shares to
other investors, including the Thai national gas company (25 percent),
private businesspeople, and institutional clients in Israel. According to
the agreement with IEC, EMG was obligated to supply some 25 billion cubic
meters of gas over 15 years at an annual rate of 1.7 billion c m. The
agreement gave IEC the option of extending the agreement by another five
years on the same terms. The gas started to flow only in the middle of 2008;
by mid June 2009, EMG had already failed to meet its commitments. The
Egyptians demanded a price increase over what was stipulated in the
agreement because of the large difference from the price of gas on the
global market. In August 2009, IEC signed an updated agreement with EMG that
met Egypt’s demands. Thereafter, until the political upheavals, Egypt met
its obligations. However, once the uprisings began, the Egyptian opposition
demanded a halt in the supply of gas to Israel or a price increase.
Concurrently, the flow of gas was interrupted several times because of
attacks on the pipeline in the El-Arish area. All in all, Israel did not
enjoy as steady or stable a supply of Egyptian gas as it had hoped.

Why was the Agreement Revoked?

The revocation of the agreement is a decision that was clearly made, or at
least approved, at Egypt’s highest political levels. Nonetheless, both Egypt
and Israel are trying to downplay the political significance of the move and
are claiming that it is a commercial dispute. On April 23, Egypt’s Petroleum
Minister Abdullah Ghorab said that the decision stemmed from commercial
considerations and was unrelated to political motives, and therefore did not
signal any kind of political trend. According to Ghorab, revocation of the
deal signed between EMG and the national companies is permitted if the deal
is violated, and the deal had in fact been violated (the Egyptian national
gas company claims that EMG owes it $56 million for the gas supplied to
Israel last year). The same day, Prime Minister Benjamin Netanyahu stated:
“We do not view the interruption of the supply of gas as the result of
political developments.” At issue are commercial disagreements between the
sides, manifested in part by an international arbitration procedure
instituted by EMG and its foreign shareholders against the Egyptian
government because of damage they had incurred (to the tune of billions of
NIS) due to interruptions to the flow of gas. IEC also announced that it is
currently “involved in an international arbitration procedure against EMG
and against the Egyptian national gas companies to demand compensation for
the heavy damages caused to it, and that will be caused to it, due to
ongoing violations of the natural gas agreements that IEC has with them.”

Another explanation for the revocation of the agreement is Egypt’s inability
to meet the obligations it assumed because of Cairo’s loss of security
control in the Sinai. Since the revolution, Egypt has been unable to supply
Israel with gas because of repeated attacks on the pipeline in the northern
Sinai. It may be that in light of the cumulative damage Egypt preferred to
revoke its contractual obligations rather than not meet them given the
number of growing lawsuits.

A third explanation looks at Egypt's political environment, which in advance
of the presidential elections (scheduled for May 23-24, 2012) has grown
quite heated. The gas agreement with Israel is presented in Egypt as
seriously corrupt, cast as an agreement made by Mubarak, his son, and their
cronies for the sake of personal gain, at the expense of Egypt's economic
interests. The senior partner of the gas deal, Hussein Salam, is awaiting
extradition from Spain to Egypt, after having been convicted in Egyptian
courts of stealing $700 million in public funds that he earned as a result
of the gas deal with Israel. The CEO of EMG, Muhammad Tawila, has been
issued an injunction barring him from leaving the country.

For now it seems that the revocation of the agreement incurs few political
costs for Egypt. The agreement supplying Israel with natural gas was, in
fact, a commercial agreement, unlike the oil agreement between the two
nations, which appears as an appendix to the peace agreement. Although the
June 2005 agreement was backed by a “political umbrella,” it seems that the
Egyptians are not attributing much meaning to the latter. From the
beginning, the Egyptians sought to avoid deep political commitments to
Israel as much as possible in order to downplay the importance of the gas
agreement for normalization between the nations, and perhaps even to prepare
the ground for its revocation. This theme was already apparent at the start
of the contacts between Israel and Egypt in the early 2000s and seems not to
have merited sufficient attention by the Israeli side.

Implications for Israel

Significant political damage: Stopping the flow of Egyptian gas puts the
last nail in the coffin of one of the only manifestations of normalization
between Israel and Egypt, and is yet additional evidence of a deterioration
in bilateral relations because of the regime’s capitulation to the pressure
of the masses. It seems that even though 35 years have passed since the
peace agreement was signed, it is still viewed in Egypt as a strategic
necessity rather than the basis for peaceful relations.

An intermittent source of natural gas: From the perspective of Israel’s
energy market, the revocation of the agreement is preferable to its
continuation under the current circumstances. That is, in light of the
circumstances surrounding the stoppage of gas, it seems that Israel cannot
rely on the Egyptian source as it did in the past. Still, should the
Egyptians seek to renew it, it would be better for Israel to agree because
of its political importance, provided it is limited in scope so as to avoid
any dependence on Egyptian gas. Renewing the supply of gas from Egypt may
even serve as a bargaining chip with local gas suppliers.

Some in Israel see a need for an immediate American response to Egypt that
would generate a renewal of the gas flow, but it seems that this is not in
Israel’s best interests. Pressure will not enhance the relations between
Egypt and Israel and may even increase tensions. Israel has large gas
reserves of its own, and there is no point in placing the local energy
market in the hands of an unstable energy supplier.

The need to accelerate processes to develop the new gas fields in the
Mediterranean: With the start of the interruption to the supply of gas – in
early 2011 – Israel should have accelerated the development of the
underwater gas fields, because the old Israeli reserve (Yam Thetis, since
2002) is dwindling and the flow from the Tamar field is expected to start
only in the second quarter of 2013. This situation is one of the reasons for
the increased cost of electricity in Israel and the expected brownouts this
summer. What is needed now is a special effort to shorten that timetable, as
Tamar is expected to supply Israel with gas for many years to come.

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