Up until 2009 when Russia cut gas supplies to Ukraine, gas exports were Russia’s most powerful source of influence in its relations with Europe. Gazprom was supplying around one-third of the EU’s gas needs and its customers seemed happy to continue to import increasing volumes of Russian gas on a business model that had not changed for decades.
Those times are over and Gazprom is scrambling to re-cast its export strategy faced by new political and commercial constraints in Europe. At the same time, its move to the Asian markets has run into difficulties and last year’s breakdown of relations with the EU over Ukraine has led European countries to accelerate efforts to diversify supply sources and reduce dependence on Russian gas.
Gazprom is also reluctantly adjusting to new EU rules designed to increase competition in the energy sector that challenge its practice of selling gas on long-term contracts. Despite strong resistance to the idea over many years, it recently held its first auctions for spot gas supplies to Europe.
Several other surprising developments in recent months suggest that Gazprom is rushing to overhaul its export strategy but is finding its room for manoeuvre limited.
In June, Gazprom - together with a set of European partners including Shell - unveiled a project to double the capacity of the Nord Stream pipeline under the Baltic Sea. At a time of uncertainty about future gas demand in Europe as well as potential financing challenges for Gazprom, the commercial case does not appear compelling.
Politically, the timing was also strange. As relations with Europe are strained over Ukraine, this was hardly the time to start a project requiring the consent of European regulators to access EU markets given its potentially damaging consequences for Ukraine’s energy security. Currently, around half of Russia’s gas exports to Europe pass through Ukraine. Expanded Nord Stream capacity could deprive Ukraine of transit revenues and weaken Ukraine’s hand in its negotiations to buy Russian gas.
Gazprom then announced it would halve the planned capacity of its planned Turkish Stream pipeline under the Black Sea. Turkish Stream had been Gazprom’s hasty response to its cancellation last year of the South Stream pipeline to bring Russian gas to its southern European markets, and it had openly described South Stream as part of its efforts to reduce transit dependence on Ukraine to zero.
Unexpectedly, however, the Russian position on Ukrainian transit also seems to have shifted. President Putin recently indicated that Russia would continue to supply gas to Europe through Ukraine after 2019 when it had been due to end. This possibly reflects an understanding in the Kremlin that to receive a green light from the EU to operate an expanded Nord Stream pipeline is going to require changing perceptions of Russia’s strategy if not the strategy itself.
Cross-border energy infrastructure projects work successfully when there is alignment of political and commercial interests on both sides. The current Nord Stream pipeline is not fully loaded because of a 50 per cent restriction on Gazprom’s use of the pipeline that transports gas from its landing point in Germany to the Czech Republic. Efforts to resolve the issue with Brussels stalled after Russia’s annexation of Crimea.
Gazprom is facing difficulties in Turkey too. Moscow’s relations with Ankara have gone into a rapid downward spiral over Russian actions in Syria coinciding with a legal dispute over a price discount for Russian gas sold to Turkey. This is a challenging context for pursuing co-operation on a new pipeline project.
Finally, Gazprom’s pivot to Asia has hit problems. China’s preferred export route - based on building the 2,200km Power of Siberia pipeline - is looking far less attractive for Gazprom after an oil price fall of more than 50 per cent since the deal was negotiated. Implementation is advancing at a snail’s pace with no prospect of completion by the target date of 2019 and financing hard to obtain. Efforts to develop liquefied natural gas (LNG) exports in the Russian Far East have also suffered serious setbacks because of the low oil price and western sanctions.
Gazprom is not just under pressure from a rapidly changing external environment - its dominant position in the Russian market is also under assault. Rosneft, its main domestic competitor, is likely to try to capitalise on the disarray in Gazprom’s export strategy by increasing its efforts to break Gazprom’s traditional monopoly on pipeline gas exports.
Diversity of supply from Russian sources would contribute to European energy security and help protect Russia’s share of the European market. Gazprom’s woes could yet lead to a healthier gas relationship between Russia and Europe.
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