Key threat to Ukrainian/European energy security has name: GAZPROM
European Gas Market: pursuit of integration
Non-direct message: EU gas market needs more integration
- Key interest of Ukraine - to develop our energy security - is to be part of transparent and fare energy market of European Union. Ukraine is moving forward towards the EU energy market, but also along with the EU in implementation of its newly developed regulations. Ukraine has adopted and is now implementing a natural gas law in compliance with the Third Energy Package of the EU.
- Ukraine contributes to the EU energy market by providing gas transit reliably and flexibly. Some EU gas traders already benefit from Ukraine’s gas storages, while beneficial customs regime creates much broader beneficial opportunities for others that might get interested. Naftogaz of Ukraine creates opportunities for interoperability with EU’s energy companies, offers equity ownership in Ukrainian GTS of up to 49% to create joint commitments.
- One of the principal goals of European energy market regulation is the creation of the uniform internal market, gas market integration. And this is what Ukraine acts upon.
- In addition to the three large energy regulatory packages, with its regulation 347/2013 the EU established the framework to support priority European investment projects from a regulatory perspective (mainly through accelerated permitting).
- In particular, those can be viewed as priority projects that bring about the missing West-East and North-South connections, aim to eliminate isolated markets or enable pipelines to handle bi-directional flows.Connecting Europe Facility (CEF), by Regulation 1316/2013 of the EU established funding to support the Projects of Common Interest (PCI) fostering the previously those goals.
- Since 2010 a lot of infrastructure has been built to improve the security of supply, including the new Hungarian-Romanian, Croatian-Hungarian and Slovakian-Hungarian bidirectional interconnectors, and developing the already existing East-West transmission lines to allow for physical reverse flows. Of these – from the perspective of market integration – the most important are the Czech-Slovakian and the Slovakian-Ukrainian interconnection where the direction of transmission is influenced by market prices.
- The price of short term (spot) gas sources has also acted as a ceiling, creating competition for Russian gas in the Ukrainian market, materially improving the negotiating position of Ukrainians against the Russians.
- At the end of 2015 gas from Europe was purchased by Naftogaz for 224 USD/thousand cubic meters. As a result, the 329 USD/thousand cubic meter price of Russian gas was reduced to 227 USD/thousand cubic meter by Gazprom.
- Because of its significant impact on market, Russia is an important factor shaping the EU in terms of energy
Energy market of Europe: role of Russian gas
Non-direct message: there is no need of additional transit capacity from Russia now
- Russia influences the EU energy market. Russia was the largest supplier of natural gas to the EU in 2017 and is in 2018. Around 38 % of EU-imported natural gas in 2017 came from Russia. For 1 quarter of 2018, around 40%. According to the European Commission, in 2017 the distribution of russians gas transit to the EU between route was as follows: Ukraine - 44%, Nord Stream – 30% and Belarus 24%.
- Currently existing onshore routes go through Belarus and Poland (Yamal gas pipeline) and through Ukraine (western corridor via Slovakia and southern corridor via Romania).Depending on the extent of capacity allocation in Opal and Eugal (onshore extensions of NS1 and NS2) and the construction of Turkish Stream, they could be even completely switched off. There is clear evidence for the competition between the routes: when Gazprom started utilising more capacity in OPAL (following new exemptions granted in October 2016) amounts of gas sent through Yamal and Ukraine decreased.
- A study by the Oxford Institute for Energy Studies claims that the available infrastructure for Russian gas delivered to Europe has the capacity of about 230-240 bcm and the average annual utilization of Russia’s export capacity reached 87 percent in 2017. The study cites a Gazprom presentation showing that the Yamal-Europe, Blue Stream, and Nord Stream 1 pipelines are currently at over 90 percent capacity utilization, leaving the “politically sensitive Ukrainian route” as the only available option for expansion. The study concludes that a physical constraint could limit Europe’s access to one of its largest and cheapest sources of gas supply in the 2020s if the question of pipeline capacity is not resolved.
- The transmission capacity available to Gazprom appears to be underestimated by 30-40 bcm per year in the above-cited study. When using the ENSOG’s gas transmission. data for 2017 (which provides transmission capacity data at each cross-border import point from Russia, Belarus, and Ukraine to the EU), the total natural gas import capacity is 7,264 GWh/d or 692 mcm/d (at GCV 10.5).29 This amounts to 253 bcm annually and it does not include Blue Stream from Russia to Turkey, since the pipeline does not enter the EU.
Future of European gas demand
Non-direct message: Rise of European gas demand is not certain, can be covered by existing supply routes in the future; new pipeline routes influence/increase Russia’s bargaining power
- Key analytical forecasts provide no joint position on the future of energy demand in Europe. The energy future of Europe is not clear, we can’t forecast the demand in 20 years from now. The technology, from modern storage to demand response technologies including grid-scale battery systems and electric heat boilers, now exists to make a 100% renewable energy system viable - with the biggest potential found in increasing energy efficiency. People are gradually switching to electric vehicles. Furthermore, successes in research enable us to believe that the fusion power reactor, will be able to generate considerably more energy than a chemical reaction such as the burning of coal, oil or gas and four times as much as nuclear fusion reactions, safely.
- One main argument in favour of Nord Stream 2 is an increasing import demand for natural gas in the EU as its own production is falling very fast, especially in the North Sea, while in some scenarios gas demand is declining very slowly.
- Possible need in extra gas supply is a consequence of European energy and climate policy. The Paris Agreement on Climate Change provides that in the second half of the 21st century no additional quantities of greenhouse gases may be added to the atmosphere. For the EU, that would mean that by 2050, the burning of fossil fuels in the transport, and heat and power generation sectors would have to be reduced to an absolute minimum.
- Such natural gas demand scenarios, which foresee the expiry of the thermal use of natural gas by 2050, are compatible with the Paris Agreement. So, we know that the current gas import needs can be met and that the demand for natural gas should be marginal in 30 years.
- whether in this time window the gas demand (for example because of the coal withdrawal) will exceed the declining domestic production and existing import capacities in a few years?
- If so, how long this condition will last and how much additional import demand would be created?
- European gas import demand in 2030 is highly uncertain.Compared to 2016, depending on the scenario, it can drop more than 60 bcm or rise more than 100 bcm. An increasing demand for gas imports will probably be met mainly by pipelines from Russia and by the import of liquefied natural gas.
- Despite the very high gas imports, it would have been possible even in 2017 to import another 30 to 50 bcm over the existing pipelines from Russia. This spare capacity should be sufficient to transport the additional gas import needs in the scenarios presented by the EU from Russia to the EU until at least 2030. Even the most extreme gas import scenarios (implying incompatible levels of greenhouse gas emissions with the Paris Agreement) could be tackled with existing LNG and pipeline import capacity.
- Certainly no one wants to take the risk that Germany's natural gas needs will not be covered in a future year could and possibly even end consumers would be forced to throttle their heaters. But it can never be completely ruled out that an unexpected strongly increasing gas import demand exceeds existing pipeline import capacities.
- Every year, such demand peaks can be covered with domestic gas storage. EU gas storage can save more than 20% of annual demand, and almost 7% of that comes from Ukrainian gas storage.
- The lowest level of storage in recent years was still 13% of total consumption in the last quarter of 2017. In order to offset longer-term growth in demand, existing LNG import capacity could serve. These correspond to approximately 43% of the annual consumption in 2017 and were only used to 27% this, 2018, year.
- Thus, as long as the necessary intra-European connections are available, even an import growth of more than 30% could be covered.
- The question is therefore mainly whether the global LNG market would be able to provide such quantities of up to 150 bcm. The International Gas Union (IGU) estimates that in 2017 the global market for short- and medium-term contracts was about 120 bcm (while a total of about 400 bcm was traded). Assuming adequate willingness to pay, it can be assumed that significant amounts can be brought to Europe for the short-term bridging of scarcity situations.
- The EU does not need more pipelines for Russian gas, as currently about 40 percent of Russia’s existing pipeline export capacity is idle.
- Certain researches claim that EU energy consumption is actually expected to decrease by 11 percent by 2040 and the share of gas in Europe’s energy mix is projected to change by only 1 percent.
- Importantly, based on free market rules prices are not negotiated directly between Russia and the EU. Rather, only regulatory frameworks for pricing are defined that reflect the relative bargaining power.
- From geopolitical perspective, gas trade between the EU and Russia can be seen as a strategic game of distributing a large economic rent. The structural bargaining power of both parties is determined by supply and demand factors that can be influenced in the long term. If the EU opens up alternative sources of gas or gas demand, e.g. By reducing renewable energy, it strengthens its bargaining power. If Russia opens up other markets for its gas, Russian bargaining power will increase.
- Example:As EU gas import demand declined after 2008, European bargaining power grew and Brussels was able to impose new internal market rules and launch a competition case against Gazprom in order to achieve a competitive single market (with as equal and low prices as possible).
- However, it can now be seen from the outcome of the competition proceedings, which is quite lenient for Gazprom, that the pendulum is currently swinging in the other direction again. This coincides with the increase in gas import demand since 2015. In this analysis framework, Russian pipeline projects would be hybrid entities that, on the one hand, influence the bargaining power of both parties, but their value also depends on regulations, which in turn depend on the bargaining power of both sides. Since large-scale pipeline projects are of strategic importance for pension distribution, they are dependent on regulatory frameworks and political support.
- The statement that Nord Stream 2 is not political does not apply even if one assumes that Gazprom is a purely profit-driven private enterprise.
- This has been also admitted by Chancellor Merkel a few months ago, who has previously strongly proclaimed that there is no political element present in the project.
Energy as a weapon
Non-direct message: Gazprom is an extension of Russia’s foreign policy, gas is used as a weapon by Russia
Soviet roots in energy dominance
- The roots for Russia’s use of energy as a foreign policy trace back to the Soviet period. As part of an effort to build a unified economy and promote unity across the USSR, the Kremlin developed an integrated gas and oil transportation network with the Russian Soviet republic at its middle.
- Pipelines were built from gas and oil fields in Soviet states like Turkmenistan and Kazakhstan to Russia, from where gas and oil was re-distributed or sold to Europe, the Soviet Union’s main energy export market. In return, these Soviet states were provided with subsidised gas.
- After the collapse of the Soviet Union, Gazprom lost access to the gas and oil fields and the transportation networks in energy-rich former Soviet states. But with alternative supplies absent, former Soviet states that had now grown accustomed to low energy prices - became vulnerable to Russian price increases or supply disruptions. Belarus, for instance, is fully dependent on Russia for its natural gas with nearly 70 per cent of Belarus’ total energy mix.
Why would Russia use its energy wealth?
- to gain economic benefits;
- to maintain, increase and exert its political influence in its perceived sphere of influence, the so-called near abroad;
- to exert political pressure on end-consumers.
Gazprom – an extension of Kremlin’s foreign policy
- Russia’sbehavior in European gas markets is shaped by a mix of commercial and political considerations and objectives.
- Gazprom and Rosneft are neither purely commercial firms nor purely an extension of the Kremlin. But when political and commercial interests intersect, Russia readily uses its energy muscle to exert pressure on transit countries and remind end-consumers of their dependence on Moscow.
- A key ingredient in Russia’s ability to use its resource abundance as an instrument of foreign policy has been President Vladimir Putin’s successful strategy of consolidating Russian energy muscle in the hands of the state.
- In the early 2000s, shortly after he had come to power, Putin set out to reverse the privatisation of Russian energy assets and turn Gazprom and Rosneft into national champions.
- For instance, between 2004 and 2007 Yukos, a private Russian energy firm that at one point produced 20 per cent of Russia’s oil output, was forcibly carved up and its assets purchased at bargain prices by Rosneft.
- In 2006 Shell was pushed to sell its majority stake in the Sakhalin-II gas project to Gazprom.
- The concentration of Russian energy resources in a handful of state-owned enterprises has been a crucial factor in enabling Russian energy export policy to become an extension of Russian foreign policy. Without this renationalisation, Russia’s ability to flex its energy muscles would be substantially less.
Gazprom’s coercive practices in Europe: destination clauses, blocking of interconnections, others
Non-direct message: examples of coercive practices are not coincidences, but a geopolitical pattern + Russia blocks cheaper Central Asian gas which is bad for Europe
- Though Russia will never admit when its energy policy decisions are driven by geopolitics, and Gazprom or Rosneft will always put forward a commercial justification for a policy, when considering a number of instances of supply disruption or pricing disputes, a geopolitical pattern emerges. Simply put, the country has shown a willingness to abuse its dominant market position in support of foreign policy goals, primarily in its immediate neighborhood but also further afield.
- Russia’s role as a major energy supplier to, or owner of energy assets in, third countries helps shield it from external political pressure. It is no coincidence that, so far, EU member-states have avoided putting economic sanctions on Russia’s conventional gas and oil sectors in response to its annexation of Crimea or intervention in eastern Ukraine.
- Numbers of messages from the President of Russia shows how energy is used as a political instrument
Russia uses the following ways and methods to use energy as a tool of coercion:
- Pricing policy of energy supplies
- Asset control
- Supply cuts
- Contractual restrictions
- Supply routes
When Russian oil supplies to the Czech Republic fell on 9 July 2008, Moscow insisted that it was due to technical reasons. But many, including in Prague, were convinced it was connected to the recent Czech decision to host America’s new anti-missile radar system, which Russia sees as a threat
Coincidences or a clear geopolitical pattern?
Method 1: hindering cross-border gas sales
- Wholesale gas prices across the Central and Eastern European Member States can differ significantly. If gas prices in one country are higher than in another, then the wholesaler in the low price Member State should be able to sell surplus gas that it does not need to meet its domestic consumption to a market where prices are higher. Territorial restrictions prevent such price arbitrage.
- Gazprom imposed territorial restrictions in its supply agreements with wholesalers and some industrial customers in at least eight Member States (Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Slovakia and, of course, Poland).
- Restrictions include: export ban clauses, destination clauses, obligation to obtain Gazprom's approval for exports, refusing to change the location.
- According to Gazprom’s corporate information, it “exports gas to Central and Western Europe mostly under long-term contracts of up to 25 years, usually based on intergovernmental agreements.”
- Furthermore, most of these contracts have been linked to the oil price. Gazprom’s long-term contracts have often contained take-or-pay clauses, which means that they stipulate a fixed volume of natural gas that must be procured. If less gas is purchased, the purchasing company must pay a fee. This guarantees a stable flow of income for Gazprom, allowing it to obtain credit on international financial markets and creates some predictability for Russia’s state finances, but it ties the purchasing country firmly to Russian energy supplies.
- A further feature of Russia’s long-term gas contracts is the use of destination clauses and specification of delivery points. These clauses refer to contractual obligations that prohibit the purchaser of the gas from re-selling the gas to a third party or to import the gas through a different pipeline route. They enable Russia to keep the European market fragmented, making its pricing strategy more effective; Gazprom can offer different prices to different buyers, irrespective of prevailing market dynamics or economic considerations such as the distance of pipeline supplies.
- Long-term contracts are still prevalent across many parts of Europe, though many European countries have been able to renegotiate existing contracts to obtain lower prices and remove destination clauses.
Immediateimpact from the restrictions:
- prevent gas from flowing freely between and to the eight Central and Eastern European countries
- lead to market partitioning (blackmailing of higher prices)
- the Member States do not have access to imported gas at potentially more competitive prices
Method 2: Unfair pricing policy
- Russia charges different prices for different countries. Often these differences cannot be explained by simple economic conditions such as distance and volumes alone. Prices arebased on different formulae. For theregion as a whole gas prices charged by Gazprom have more than tripled between January 2004 and December 2014
- Gazprom pegs the price of the natural gas it sells to a number of oil products (so-called "oil indexation"), which is not illegal. But Gazprom's specific price formulae which link the price of gas to the price of oil products seem to have largely favoured Gazprom over its customers. Gazprom has charged unfair prices in at least five Central and Eastern European countries (Bulgaria, Estonia, Latvia, Lithuania and Poland).
- Russian gas exported to the EU is a homogeneous product that is transported in thesame manner via pipelines. Further, gas supply contracts do not specify from which
Source the gas is delivered from. Therefore, Gazprom’s production costs should be considered same for supplying natural gas to any EU member state.
- Gazprom benefited from the gas price increases in the CEE countries as well as other markets. Its gas production between 2006 and 2013 declined by more than 12%, while net profits increased by 47%, significant part of which due to export prices.
- Furthermore, the prices net of transport costsshow an even greater differencebetween German and CEE long-term contract prices
Method 3: Making gas supplies conditional on infrastructural commitments from wholesalers
- The energy distribution network is the backbone though which Russia can project political influence. Through its ownership of critical supply pipelines, Gazprom is able to influence decision-making in key countries. Often these purchases take the shape of a “debt-for-assets” deal, whereby Russia swaps pipeline infrastructure to cancel debts.
- For Russia, ownership means controlling the pipeline transport infrastructure, the operator as well as the gas that flows through the pipeline. This way Russia can sustain its monopolistic market position and maximise the political influence that a pipeline can offer. Russia’s rationale is that this is the only way it can secure reliable supply.
- Gazprom leveraged its market dominance in Bulgaria and Poland by making gas supplies conditional upon obtaining certain infrastructure-related commitments from wholesalers.
- Inside the EU, Gazprom has controlling shares in a number of gas operators and pipelines. Just as it has used its pricing policy as a bargaining tool, Russia has also adjusted the volumes of gas or oil it supplies when it bargains for certain strategic assets.
- In Bulgaria, the Gazprom made wholesale gas supplies conditional upon the participation of the Bulgarian gas incumbent wholesaler in a large-scale infrastructure project of Gazprom (the South Stream pipeline project) despite high costs and an uncertain economic outlook.
- In Poland, the Commission's preliminary view is that Gazprom made gas supplies conditional upon maintaining Gazprom’s control over investment decisions concerning one of Poland’s key transit pipelines (Yamal). This pipeline is one of the main infrastructures that could allow gas from suppliers – other than Gazprom – to enter the Polish market.
- In its effort to gain control over its oil export routes, in January 2003 Russia stopped shipping oil to the Ventspils Nafta port in Latvia. By choking off supplies, Russia hoped to coerce the Latvian government to sell the oil port.In 2006, Swiss-Dutch oil trader Vitol acquired a stake of 34.5 per cent in the port. It has since enlarged its stake to 49.98 per cent.
- In July 2013, Gazprom purchased Kyrgyzgaz, Kyrgyzstan’s national gas operator, for the symbolic amount of one US dollar. The company’s debts were cancelled as part of the deal.The purchase followed a vote by Kyrgyzstan’s parliament in June 2013 against extending a US lease for a base in Manas that the United States military used for operations in Afghanistan. Given Kyrgyzstan’s small market and the financial woes that Kyrgyzgaz was burdened by, this step does not appear to be informed by the pursuit of economic profit. Instead, it appears motivated by geopolitics. Central Asia is the location of increasing political competition between Russia, China and – to a somewhat lesser degree – the United States. The deal enables Russia to increase it political leverage over Kyrgyzstan and strengthen its position in its traditional backyard.
Method 4: Supply disruptions
- When pricing disputes with Gazprom escalate, they can lead to supply disruptions or even cuts. Supply cuts are the most extreme form of exerting pressure.
- Though often cloaked in commercial terms, the geopolitical impact of a supply cut is unmistakable and can have long-lasting effects on Russia’s image abroad. They often occur at moments when Russia believes its strategic interests are at stake and can be both defensive and offensive in nature.
- In 2006, Russia stopped sending oil supplies to Lithuania’s Mazeikiu refinery. Though Moscow cited technical problems, the real reason was most likely the sale of the refinery to a Polish, rather than a Russian, firm.
- In 2008, oil supplies to the CzechRepublic fell, arguably in response to Prague’s decision to host a US anti-missile radar system. Again, technical problems were cited.
- In 2014, as the EU contemplated tougher sanctions against Russia, gas supply through the Yamal-Europe pipeline fell by roughly one third. Poland and Germany were affected. Though the reason for the drop in supply has not been made public, it served as a reminder to European consumers that Russia could shut down supplies if it wanted to.
- A particular case is the cut in exports between Turkmenistan and Russia. The Central Asia-Center pipeline (CAC) is a Gazprom controlled set of natural gas pipelines that run from Turkmenistan to Russia, crossing Uzbekistan and Kazakhstan. The pipeline was built during the 1960s and 1980s, when the Soviet Union wanted to ship Turkmen gas to Russia and onwards to Europe. The CAC tied Turkmenistan to the Russian market. This dependency on Russia’s gas infrastructure gave Moscow substantial leverage over Ashgabat. Turkmenistan holds the fourth largest natural gas reserves in the world, or roughly 10 percent of the global total. In 2003, Russia and Turkmenistan signed a long-term agreement for Russia to import 40 billion cubic metres of natural gas per year. This gas is mostly re-exported to Europe. Russia sought to ensure that no meaningful supply of non-Russian gas over which it has no control could enter the European market. Simultaneously Russia used ownership of the dominant Central Asian gas distribution network to maintain influence over its former Soviet states in Central Asia.
- In 2007, Russia imported 42.6 bcm of Turkmen gas through the CAC. In 2009, this had dropped to 11 bcm. In April 2017, Gazprom announced that it would stop importing Turkmen gas entirely, as a result of a pricing dispute. Given the low oil price environment, Russia claimed that it should pay less for the gas it purchased, but Ashgabat refused.Turkmenistan had long been frustrated that Gazprom buys most of its gas and sells it to Europe for “more than twice the price Turkmenistan receives.”Meanwhile, Ashgabat looked across the Caspian Sea and saw Azerbaijan sell gas at world market prices. An alternative route that would link Turkmenistan across the Caspian and through the Trans-Anatolian and Trans-Adriatic pipeline system to Europe has been on the drawing board for some time. But so far the Trans-Caspian pipeline faces major problems. Environmental and legal concerns put forward by Moscow, among others, have stalled the project. Russia has an interest to avoid the Trans-Caspian pipeline from being built, as it would bring more competition to the European gas market and weaken its political grip influence over Turkmenistan. Instead, Turkmenistan has decided to look East, and developed its energy ties with China. In 2009, 2010, and 2015 three pipelines were opened that run from Turkmenistan to China. Though, Turkmenistan has now replaced dependence on one monopoly (Russia) with another (China).
- In pursuit of Russian dominance Gazprom has been foreclosing EU’s access to other, cheaper sources of gas, incl. gas from Central Asia. The operating pipeline connecting Kazakhstan, Uzbekistan and Turkmenistan with Ukraine’s system is in place, but no one can use it to buy gas except for Gazprom. Gazprom similarly has been enjoying an export monopoly for onshore from within, granted by the Russian government decree. Hundreds of billions of cubic meters of gas produced by other companies in Russia (including those extracted and refined by private gas producers with western investors) are captive of Gazprom’s monopoly over the transmission system and cannot be sold abroad via pipelines. While the private producers are confined to export and compete as LNG sellers only, the European market is preserved for Gazprom’s exclusive benefit. Central Asian gas would significantly lower the price of gas in the EU.
- In 2005 Russia has inflicted a three-fold price increase for Ukraine after President Yuschenko announced the European course for the country. When Ukraine failed to agree to these higher prices, Gazprom cut gas supplies to Ukraine on January 1 2006, at the height of winter.
- On 7 January 2009 Russia stopped all gas transit through Ukraine to Europe. But the reverse also happened. In February 2010, Viktor Yanukovych returned as president of Ukraine. In December 2013, Yanukovych rejected an EU trade deal and agreed to join Russia’s Eurasian Economic Union instead. In return, he secured a USD 15 billion loan from Russia and Gazprom agreed to lower gas prices for Ukraine, from USD400 per tcm to USD268.50 per tcm.
- However, since the Maidan revolution, the annexation of Crimea and the war in Eastern Ukraine, Gazprom again decided to punish Ukrainians on 1 April 2014, by increasing the gas price for Ukraine to USD385.50 and two days later to USD485 per tcm; substantially higher than average European prices at the time, which were at greater distance from Russia, often downstream the main pipeline system running through Ukraine.
- On 16 June 2014 Gazprom cut gas supplies to Ukraine, claiming that Ukraine had an outstanding debt of USD4.5 billion. After that, Gazprom moved to a system of advance payments for Ukraine’s gas supplies. Every six months, a new supply contract was negotiated. In July 2015 and later in November, Gazprom cut gas supplies again, citing a failure to reach an agreement on advance payments of gas. Gazprom put its decision in commercial terms. According to the firm, the gas price hike took place because two earlier discounts no longer applied. The first concerned a 2010 discount to access the Sevastopol naval base. Moscow reasoned that Sevastopol was now part of Russia and so it need no longer pay for access to the base. The second discount was the one negotiated in December 2013 with President Yanukovych as part of the agreement to join the Eurasian Union. This discount was reversed as Yanukovych had left and been replaced by the pro-Western Petro Poroshenko. In June 2014, Poroshenko signed Ukraine’s association agreement with the EU which is incompatible with membership of the Eurasian Union, providing the geopolitical context for Russian gas cuts.
- For the period of 2004-2014 one contract between Gazprom Export and PGNiG was in place.
- The graph demonstrates the growth of prices of gas for Poland from Gazprom over 2004-2014
- PGNiG considered the removal of the re-export clause from its supply contract with Gazprom Export since 2006. Initially it discussed the territorial restriction with the Polish Competition Authority. The issue was also subject to discussions between PGNiG and Gazprom Export during the Yamal Deal negotiations in 2009-2010. According to PGNiG, Gazprom linked the removal of the re-export ban with the conclusion of the Yamal Deal. Gazprom Export did not agree to discuss the deletion of the territorial restriction before the Yamal Deal was finalised. The export ban was removed from the supply contract with entry into force of Annex 35294 on 29 October 2010 together with the conclusion of the Yamal Deal.
- In January 2009, gas supplies to Poland by the Ukraine based intermediary of Gazprom RosUkrEnergo stopped. As a result, the Polish wholesaler lost 2.5 bcm of contracted supplies (its about 18% of Polish consumption). PGNiG attempted to procure gas from several suppliers from Western Europe, namely ERG and two other undertakings active on the gas market. The new delivery points envisaged by PGNiG were at Yamal’s exit points in Poland or Mallnow, Yamal's exit point on the Polish/German border. Gazprom Export refused to agree to a change of gas delivery points along the Yamal pipeline.
- Gazprom conditioned gas supplies to PGNiG upon the conclusion of the OA which conferred investment powers to Europol (where Gazprom had a veto right):Gazprom used its leverage as dominant gas supplier and made the renegotiation of the gas supply contract with Polish wholesaler PGNiG dependent upon PGNiG's agreement in 2010 that the Polish section of the Yamal-Europe pipeline would be operated on the basis of an operatorship agreement which was favourable for Gazprom.
- The agreement allowed Gazprom to maintain control over investments in Yamal via its co-ownership of Europol. The Operatorship Agreement of 25 October 2010 ('OA') imposed by Gazprom vis à vis PGNiG sets out that development planning and carrying out expansions remain with Yamal's owner Europol (which is co-owned 48% by Gazprom and 48% by PGNiG). Therefore these tasks do not fall within the competence of the Polish transmission system operator ('TSO') Gaz-System as would be required under Gas Directive 2009/73.
- Gazprom also ensured that within Europol's statutory bodies it has the right to veto any investment decisions, including those that would allow for the diversification of gas supplies to Poland and for the improvement of Poland's security of supply. Gazprom’s aim was to make sure that it can delay or even block decisions on investments regarding the Yamal pipeline that could serve to import gas from alternative suppliers and that could therefore have weakened Gazprom’s market position in Poland.
- In 2012/2013, Gazprom delayed the increase of capacityfrom Yamal through the exit point Wloclawek. Later in 2011 Gazprom (by a representative in Europol) also blocked physical reverse flowsby voting againstthe so-called Mallnow Agreement which would have set out the technical details forintroducing PRF from Germany into Poland.These measures were meant help Poland diversify its supply routes and avoid situations as the above described.
Developing Nord Stream 2 as bypassing supply route for gas flows – can be similarly dangerous to Europe’s energy and broader geopolitical security, as the previous coercive measures
In formal: what is Nord Stream 2?
Non-directmessage: NS 2 is not a European project
- Nord Stream 2 AG is a project company established for planning, construction and subsequent operation of the Nord Stream 2 Pipeline
- A sole owner of Nord Stream 2 AG is Public Joint Stock Company (PJSC) Gazprom
- Financing companies: ENGIE, OMV, Shell, Uniper, Wintershall receive thehighest level of preferential rates in comparison to the market
- The pipeline’s landfalls are in Russia and Germany, the pipeline passes through the waters of five Baltic Sea nations. More than 200 km of pipeline are in place already.
- Nord Stream 2 AG has as of now been unable to receive a permit for construction from Denmark and has filed an application for an alternative route which bypasses the country’s territorial waters.
Impact from NS 2: Economic and Social welfare
Is the current gas market design robust enough to prevent a market separation strategy? – NO
NS 2 fragments Europe’s Gas Market
Step 1: NS 2 creates a congestion in the West-East interconnections.
- Bruegel (2017) argues that there is a capacity limit of 110 bcm in the West-East direction along a line within Germany, while 145 bcm of residual import gas demand East of this line can only be imported either from the area West of the line or from Russia.
- According to Bruegel (2017), this yields a critical import demand of 35 bcm that can only be served by Russia for the countries East of the line creating market power for Gazprom.
- Example: Currently, Slovakia can use the West-East pipelines to buy gas for immediate delivery at ‘spot’ prices, while gas bought under long-term contracts with Gazprom, which tends to be more expensive, comes through Ukraine.
Step 2: Curtailment of trade via long-term bookings is constraining competition
- If Ukrainian transit was minimized, those West-East pipelines would be filled up with gas under longer-term contracts. Due to this bottleneck, the volume of cheaper ‘spot’ gas flowing to Central and Eastern European countries would be lower and prices in the region would increase, according to REKK.
- Booking long-term deliveries equals loss of access to virtual reverse flows.DE-CZ-SK reverse flow capacities are booked by Gazprom: 80% between 2020-30 but some up to 2038 (DE-CZ: Deutschneudorf, Oldbernhau 2, CZ-SK: Lanzhot, Lanzhot 1, Lanzhot 2)
Step 3: Constrained competition increases gas prices for CSEE consumers, decreases social welfare
- Gas from Nord Stream 2 will not necessarily be cheaper, as it would increase Gazprom’s sole-source provider leverage over consuming countries.
- If Nord Stream 2 is completed, Europe and Gazprom will lose the flexibility and spare capacity of the Ukrainian system and will likely have to invest more in storage for emergencies and peak demand. This may indirectly increase the cost of natural gas in Europe.
- Even the Oxford Institute for Energy Studies (which is financed by Gazprom) claims that there is “limited scope for significantly reducing overall European dependence on Russian gas before the mid-2020s”. That is partly because European companies have long-term contracts with Gazprom running to 2030.
- Transporting Russian gas through Germany to Central and Eastern Europe would reduce gas transport capacities for non-Russian gas from Western European regional gas markets and restrict market opportunities for companies delivering non-Russian gas.
- Nord Stream 2 would position Russia as Europe’s main gas supplier and could stifle opportunities for non-Russian companies to export liquefied natural gas (LNG) to the EU as rising gas prices in Europe make LNG more competitive to pipeline gas. This would harm consumers and would expressly contradict U.S. and EU policy priorities.
Impact from NS2: geopolitical implications and security of supply
- Nord Stream 2 would undermine EU unity, as the project seeks to favour some countries over others—amplifying Russia’s “divide and rule” approach to energy politics.
- CEE countries will be at the end of a pipeline delivery system and their security will not be linked anymore to supplies to the Western markets.
- The Nord Stream 2 project would undermine the EU’s energy strategy, which is based on promoting a diversity of energy sources through a proliferation of import routes.
- NS 2 threatens the security of Scandinavian countries and navigation in the Baltic Sea
- With NS2, Russia will attempt to squeeze out unreasonable conditions from Ukraine and CEE member states to fulfill Gazprom’s existing contractual obligations. Gazprom is already trying to shape the negotiations as a concession to Ukraine/CEE
- For Ukraine, the need to negotiate gas provision directly with Moscow again could have consequences that go far beyond commercial disadvantages. Nord Stream 2 could seriously endanger the physical security and geopolitical situation of Ukraine.
- Nord Stream 2 poses a risk of environmental damage in the Baltic Sea, including a number of sites protected under the Natura 2000 program.
Security of supply:
- NS1/NS2 have inherent technological weakness in their design: they have only two compressors on both sides of the pipeline. In case of an emergency, a damaged section cannot be isolated, and there is no spare capacity to redirect gas flows. Every year, NS1 completely stops for maintenance for several weeks. The same will be necessary for NS2.
- European demand fluctuates a lot because of the weather conditions, prices of alternative energy resources, etc. Gazprom’s nominations are stable for NS1 and Yamal. (Ukraine’s GTS provides exceptional flexibility to Gazprom)
- With the NS1/NS2 the gas has/will have to physically pass 1200 km of pipeline + some 600 km of OPAL/EUGAL before the exiting volume can be adjusted. This takes at least 36 hours (The Ukrainian system effectively “teleports” gas over 1000 km from Eastern to Western border by adjusting entry-exit capacity)
How to stop the NS2
Actions on part of the US
- Tougher Sanctions. The U.S. Administration must move toward implementing the sanctions authorized last year by the U.S. Congress. Congress granted the U.S. Administration bold new powers and a clear mandate to expand sanctions on Russia, including its new pipeline projects. The Administration has legal authority to apply sanctions and restrictions on private sector interests that seek to facilitate the Nord Stream 2 pipeline project. Since Congress passed H.R.3364—Countering America’s Adversaries Through Sanctions Act—in August 2017, Russia has actually escalated its campaign against the West. The Kremlin has clearly not received the message that it may no longer challenge the rules-based international order upon which transatlantic solidarity is based. More comprehensive sanctions by the U.S. Administration would send that message to Moscow.
- Enhanced U.S. Leadership. America must not be a spectator on Nord Stream 2—it must lead. If individual U.S. allies inside the EU feel they are “in it alone” against larger European powers or daunting financial interests, they are unlikely to exercise their full rights to oppose the completion of Nord Stream 2 under existing EU legal and political mechanisms. The best way to guarantee a robust and unified transatlantic coalition against Nord Stream 2 is for the United States to put itself forward as the leader of states who are opposed to the project on compelling legal, economic, and policy grounds. There are many avenues that can be used to leverage U.S. leadership, including co-signed public letters and multilateral working groups. A strong projection of U.S. leadership today will advance shared transatlantic interests far into the future.
Greater EU Resolve
- EU leaders now have an unparalleled opportunity to demonstrate their ironclad commitment to the principles of the European Union by taking a stand against Nord Stream 2. The EU was founded on laudable principles such as the rule of law and the equality of all member states.
- However, Nord Stream 2 runs against EU competition rules and violates the 2009 EU Gas Directive. The European Commission proposed to update the EU Gas Directive, in order to ensure that the core principles of EU energy legislation are applicable to all gas pipelines to and from third countries. The proposed amendments would strengthen the legal case against the Nord Stream 2 pipeline.
- Strong request to Russia about implementation of 3rd energy package/opposing Nord Stream 2, EU leaders and member states alike can demonstrate that individual state financial interests do not trump the rule of law or the equality of all EU member states.
Solutions in case NS2 happens
Disadvantages of Nord Stream 2 can possibly be cushioned through:
- 3rd packages of Energy Charter in Russia - EU has to make strong request to Russia and other gas supplier as well
- More financial support for Eastern European countries gas transit infrastructure development, including German guarantees on security of gas supply for Central and Eastern Europe. But the cost of this would be paid by German gas consumers and taxpayers
- Extra investment in the domestic European gas network: For the next budget cycle, the Commission should at least protect, and preferably increase, funding for the Connecting Europe Facility - Energy, an infrastructure fund. A total budget of €5.35 billion is made available for energy projects for the 2014-2020 period, of which €4.5 in the form of grants managedby INEA.(projects of common interest map:
- On the other hand, the indirect foreign policy costs are difficult to measure.
- Physical security of the European borders as well as Ukraine territorial integrity clearly face a high level threat. It is not a priority for Poland to become the eastern border of Western civilizations while the neighbor is so unpredictable, aggressive, unfair.
- European Union energy security is nowadays strongly connected to ability of key EU governments - especially Germans and France - to act in line with own, declared, principles and values. Equal rules and no exemption - especially for Gazprom - on gas market, will create open field for real competition, fair pricing and equal access to energy resources for all EU members. In this case EU energy supply risks move down and significantly cut dependence on any single supplier.
Assenova Margarita, June 2018, CEPA, Europe and Nord Stream 2: Myth, Reality, and the Way Forward
Tagliapietra Simone and Zachmann George, January 2016, Bruegel, Rethinking the Security of the European Union’s gas supply
Zachmann Georg, July 2018, Bruegel, Nord Stream 2: a bad deal for Germany and Eastern Europe
European Political Strategy Centre, October 27, 2017, Nord Stream 2 – Divide et Impera Again?: Avoiding a Zero-Sum Game
Policy Department for External Relations, AFET committee study, April 2018, European Parliament, Energy as a tool of foreign policy of authoritarian states, in particular Russia
DG COMP Special handling, 2015, European Commission, Statement of objectionsrelating to a proceeding under Article 102 of the Treaty on the Functioning of theEuropean Union and Article 54 of the EEA Agreement, Case AT.39816 k Upstream Gas Supplies in Central and Eastern Europe
KotekPéter, SeleiAdrienn, Takácsné TóthBorbála, REKK, The impact of the construction of the Nord Stream 2 gas pipeline on gas prices and competitions
Zachmann Georg, LNG and Nord Stream 2 in the context of uncertain Gas import demand from the EU
Oleksandr Kharchenko, managing director Energy Industry Research Center (Kyiv, Ukraine)
Oleksandr Kharchenko acts as an advisor on energy and communications to different authorities, governmental representatives and politicians in Ukraine – Ministry of regional development, construction and communal services, Parliamentary committee on energy and nuclear energy and safety, Vice-prime-minister of Ukraine, Chairperson of the Verkhovna Rada of Ukraine, several MPs etc. – since 2013. • Managed series of different research of Energy Industry of Ukraine – including biomass availability, tariffs and pricing trend analyse, feasibility study for many projects in renewable; • Managed (as adviser for Vice-prime-ministry of Ukraine and member of International energy experts group, included international experts and representative of Department of Energy and Ukraine Support Group of EU Commission, Department of Energy of USA, Natural Resources Canada etc.) preparation and implementation control of Winter Action Plan 2014-1015 and 2015-2016 (Governmental emergency plan for energy industry for heating season time); • Developed and provided training for top management of middle size and big companies in energy efficiency, renewable and communication.