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BLUFF OR FOR REAL?

Gazprom's plan to exclude Ukraine from the transit of gas to Europe could lead to unpredictable results for the monopoly

Author:

26.01.2015

The worsening stand-off between the West and Russia over the events in Ukraine threatens to alter not just the political but gas map of the region. The first victim of the stand-off was the South Stream project, which Russia's Gazprom conceived as a route bypassing Ukraine. Europe did not accept this initiative, blocking the advancement of the project because it did not comply with the EU's third energy package, which provided for a sharing of the gas suppliers and the owners of the gas transportation network.

There were a number of reasons that triggered this decision. First, South Stream did not ensure the diversification of gas supplies. Second, given a strong and normally functioning Ukrainian gas transportation system, capable of transferring the whole volume of Russian exports to Europe (about 140bn cu.m. annually) there was no need for this route.

But Gazprom did not give up the idea of a gas export route to the EU as an alternative to the Ukrainian one and triggered the idea of laying a gas pipeline along the bottom of the Black Sea with an outlet to Turkey and creating a hub on the Turkish-Greek border. A memorandum on the Turkish Stream project was signed during Russian President Vladimir Putin's visit to Turkey in December. Furthermore, Gazprom is even now posing the question squarely - from 2020, for the countries of Southern Europe that receive gas via Ukraine, Turkish Stream would be the only possibility of meeting their demands for this fuel.

"Turkish Stream is the only route through which the 63bn cu.m. of Russian gas, currently running in transit via Ukraine, can be supplied. There are no other options. Our European partners have been informed of this, and their task now is to create the necessary gas transportation infrastructure from the Turkish and Greek borders. They have just a few years at the most to do this. This is a very, very rigid timetable. To stick to this schedule work on the construction of the new main gas pipelines must be started in the EU countries today. Otherwise, these volumes of gas could end up in other markets," the head of the Russian monopoly, Aleksey Miller, said at a recent meeting with the deputy chairman of the European Energy Commission, Maros Sefcovic. However, Sefcovic did not get the message: "This news has taken us by surprise because we don't work like this. The trading system is different nowadays, and Aleksey Miller's proposal on supplying all the gas to the Turkish and Greek borders hurts Gazprom's image as a reliable supplier."

In an interview for RBK, Sefcovic elaborated on his thoughts about Gazprom's proposal. "I believe that before announcing such a serious decision, it is better to discuss it first, especially with the EU, because we are a very important consumer for Gazprom. We are one of the biggest energy importers in the world and we pay 400bn euros annually to import energy. We are a good buyer, we pay on time in hard currency and we always observe the conditions of contracts. So I was surprised. We must analyze this decision further, but I believe it violates the existing contracts - they stipulate clearly where the gas should be supplied to. And it is not the Turkish-Greek border," Sefcovic said. At the same time, he noted that even if the Turkish Stream scenario is implemented, there may be no call for gas from this route. "Because Turkey needs 14-15bn cu.m. of gas and South-East Europe 10-15bn cu.m.. What do they plan to do with the remaining volumes? So I don't think it is good or fair or makes economic sense to completely exclude Ukraine," the European Commission deputy chairman said.

Sefcovic's logic is quite understandable. Gazprom is, of course, free to withdraw from the transit agreement with Ukraine after 2019 when the validity of the current contract expires. But, on the other hand, in long-term agreements with European countries it is explicitly the gas system of a country, and not a hub thousands of kilometres in the territory of another country, that specifies the point of delivery of the gas.

On the other hand, a number of experts believe that at this stage it is not clear what new markets Gazprom is looking at. At the moment the Russian monopoly has only one new contract providing for the supply of 38bn cu.m. of gas annually to China. But the resource base of this contract is new fields - Kovyktin (Irkutsk Region) and Chayandin (Yakutia [Siberia]). Gas is being produced for Europe in the fields of Western Siberia.

Kiev sees Gazprom's plans to reject the Ukrainian gas transportation system as "political bluff". "Forcing the European countries to buy Russian gas at the Turkish and Greek border instead of using the existing infrastructure via Ukraine is a rejection of a perfectly smooth and reliable system benefiting billions of investments which at the end of the day are steered towards European business and homes. So this threat is political bluff," Andriy Kobolev, the head of the Ukrainian company Naftohaz said.

However, Gazprom's manoeuvre could easily backfire. According to Sefcovic, the European Commission intends to hold a high-level meeting with the countries of South-East Europe, at which it plans to draw up an energy master plan for the region.

"We shall be discussing the construction of gas pipeline interconnectors, Bulgaria's wish to build a gas hub, how to prioritize all the scheduled infrastructure projects and how we can help these countries integrate into the European gas system," Sefcovic said. 

Moreover, Gazprom's intention to reject the Ukrainian gas transportation system could draw the EU's attention even closer to alternative sources of gas. "We are building Mediterranean gas hubs and we are discussing the creation of LPG [liquefied petroleum gas] terminals. New supplies of gas have been discovered in the Eastern Mediterranean close to Israel and Cyprus and Romania is carrying out exploratory drilling in the Black Sea. Of course, we are counting on the Southern Gas Corridor, which is designed to supply gas from Azerbaijan via Turkey and Greece, and then to the north. In addition, we are striving to save energy through an energy efficiency programme and the use of renewable sources of energy. We shall bear this in mind when we create an energy union," Sefcovic said. 

Incidentally, although neither Azerbaijan nor Turkey sees any rivalry between the Southern Gas Corridor and Turkish Stream, some Russian experts are talking about a need to speed up work on the latter project. "We really must do this because Europe is considering the construction of other gas pipelines via Turkey which are tied up with Azerbaijan. Theoretically, they could be tied to Iran and Turkmenistan, which it was also planned to do via Turkey. If we build our gas pipeline, then, naturally, it will be exclusive because it would be illogical for several pipelines to go to one point," Sergey Chizhov, president of the Russian Gas Union, said on Radio Kommersant FM.

Of course, Turkish Stream could theoretically transform Turkey into a crucial gas hub, but its implementation is at the moment tied up with resolving purely contractual arrangements, because there are no binding agreements providing for the construction of the pipeline. On the other hand, Gazprom's latest statement about the need to recover Ukraine's gas debts is also not helping to reduce the tension in the already far from ideal relations between the two countries. As Miller said at a meeting with Russian Prime Minister Dmitriy Medvedev, Gazprom has presented Ukraine with a bill for 2.44bn dollars for previously supplied gas, of which 2.196bn represents the basic debt and the rest penalties regarding the conditions of the contract. "Try to recover the debt, of course, and if you need anything from the government, let us know and we will give you the necessary support," Medvedev said.

Now is the time to take a brief look at the background of the latest gas stand-off between Moscow and Kiev. In November 2013, Russia offered Ukraine a large discount on gas prices following the postponement of the signing of the Association Agreement with the EU, as a result of which the gas price was reduced to 268 dollars for 1,000 cu.m.. However, after the latest revolution in the Maidan, which followed in December that year leading to the ousting of President Viktor Yanukovych, Russia cancelled all discounts and the price of gas increased to 385 dollars, and following the annexation of Crimea, to 485 dollars. The new Ukrainian government refused to pay for the gas, which led to the building up of debt ranging from about 3.1bn dollars, according to Kiev, to 5.3bn, according to Moscow. The outcome was that Gazprom made Ukraine pay up front, which led to a complete suspension of supplies.

However, Kiev was able to survive without Russian gas almost until the end of last year, because supplies started coming from Poland, Slovakia and Hungary. The Russian-Ukrainian gas dilemma was then settled following the meeting in October of the Russian and Ukrainian leaders, Vladimir Putin and Petro Poroshenko, at which Moscow offered a discount of 100 dollars, reducing the cost of gas for Ukraine to a basic 385 dollars for 1,000 cu.m.. This price is valid for the winter period up to 1 April this year. The debt, reduced to 4.5bn dollars, was also recalculated at the same price. At the same time, Kiev paid 3.1bn dollars of this debt before the end of the year, and the rest is due to be settled by the Stockholm Court of Arbitration.

But by its statement about the need to recover its debts Gazprom has in fact cast doubt on the agreements between the Russian and Ukrainian presidents about the size of the debt and the settlement by arbitration. That said, the rejection per se of the "winter package" on gas supplies at a reduced price doesn't particularly worry Ukraine. As Volodymyr Demchishin, [Ukrainian] Minister of Energy and the Coal Industry, said, Ukraine plans to have fresh negotiations with Russia about the conditions of the supplies of Russian gas supplies as soon as the validity of the "winter package" expires on 1 April. "It is too early now to say what the conditions will be. In any event, the market is in our favour. The fall in the price of oil means that the price of gas will be substantially lower than it was before," Demchishin said.

Incidentally, some experts calculate that, bearing in mind the halving of the oil price, the cost of gas for Ukraine in the summer and autumn of 2015 could be in the region of 300 dollars, that's without taking into account the discount in the "winter package". But in the long term Ukraine plans to reject purchases of Russian gas altogether. At least, that is the challenge posed by President Petro Poroshenko. "Can you imagine that six years ago my country consumed 70bn cu.m. of gas? Today the figure is 40bn cu.m.. That was the achievement this year. I am fully convinced that in two years' time we shall not need Russian gas at all. This is a very important factor of my country's energy independence," the Ukrainian president said in a speech at the Institute of Europe of Zurich University.

And, indeed, Ukraine, which was importing around 40bn cu.m. of gas annually from Russia about five years ago (and before that import volumes had reached as much as 60bn cu.m.), at the end of 2014 bought just 14bn cu.m. from Gazprom. As a result Gazprom has lost one of its biggest markets, which has been reflected in the monopoly's overall export volumes. According to Bloomberg agency, at the end of last year Gazprom's exports to the EU, Turkey and the CIS countries amounted to 192-195bn cu.m., the lowest for the last 10 years.

Gazprom's latest initiatives are also hardly likely to lead to an increase in gas exports and could, one would think, shake the solid positions of the Russian monopoly in its traditional European market. And this, at a time of an exacerbation of tension in relations between Russia and the West, which has already turned into a crisis in the Russian economy, is by no means a salutary factor.


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