Gazprom’s Midnight Express: Why Attempts to Reroute Russian Gas Won’t Work

Russian gas giant Gazprom faces a number of significant challenges from external factors and its own poor decisions.

By Garret Mitchell
Contributing Writer
March 29, 2015

With the media’s gaze focused on a fragile truce in Ukraine, less attention has been given to another issue that has outlasted presidents and prime ministers alike—natural gas. The relative dearth of reporting on natural gas in the Western press could be attributed to the present realities in Ukraine. Despite fresh warnings of renewed cut-offs by Gazprom, deliveries have continued from Russia to Ukraine. Yet Gazprom chief Alexei Miller’s earlier promises of a future for uninterrupted Russian gas flowing to Europe through Ukraine now may be illusory. Moscow is again threatening to reroute Russian gas, but this latest chapter in the never-ending story of European energy relations will not end in Russia’s favor.

In mid-January, Mr. Miller blindsided his EU counterparts with details of the planned “Turkish Stream” pipeline. This announcement officially buried the moribund “South Stream” project that would have delivered Russian gas through Bulgaria and southern Europe via the Black Sea. South Stream ultimately fell victim to Russia’s feckless annexation of Crimea and EU concerns about enhanced Kremlin leverage over European energy policies. Upon the completion of Gazprom’s latest endeavor, European countries currently purchasing gas via Ukraine will be compelled to buy from a new hub on the Greco-Turkish border. Mr. Miller’s comments were confirmed by Russia’s energy minister Alexander Novak, who said “the decision has been made.”

From Gazprom’s perspective, a Ukraine-free gas corridor appears justified in light of a shaky ceasefire in the Donbass region and efforts by Kyiv to reduce accumulated debts owed to Russia through a lengthy Swedish arbitration process. Continued shipments of Russia’s second most important commodity through what has in effect become enemy territory is naturally a great concern for Moscow. Ukraine could use its strategic location to disrupt deliveries of natural gas to Europe, thereby depriving an economically vulnerable Kremlin of important revenues. However, the numbers behind Russia’s statements do not add up.

Presently, one third of all gas consumed in Europe comes from Russia—approximately 150 billion cubic meters. About 40 percent of this gas traverses Ukrainian territory. Upon examining Turkish Stream’s planned capacity, it becomes apparent that infrastructure realities would delay Moscow’s plan to re-direct all European bound gas through Turkey. As only the first of four lines comprising Turkish Stream is intended to be operational by 2017, Gazprom would not be able to fully capitalize on threats to completely redirect Ukrainian transit gas for some time. Additionally, 15 billion cubic meters (bcm) of a projected total volume of 63 bcm—the capacity also promised via South Stream—would be reserved for Turkish consumers. Thus, Gazprom dubiously claims that a new pipeline to Turkey terminating at the Greek border would be able to satisfy both European and Turkish demand.

Gazprom’s bluster may simply be a device used by a Kremlin groping for leverage in what has become a serious economic downturn exacerbated by Western sanctions. Depressed oil prices have diminished Russia’s ability to negotiate energy prices from its usual position of strength. While the price of natural gas typically lags behind the price of oil by six months, a more than 50 percent drop in world petroleum prices since mid-2014 means that European customers will be able to negotiate better deals. For example, Ukrainian Prime Minister Arseniy Yatsenyuk said last month that under a new agreement to replace the expiring winter contract, he expected one thousand cubic meters of Russian gas to cost $250-$300, down from past rates as high as $385 per thousand cubic meters.

Ironically enough, the market forces that compel Gazprom to negotiate contracts with European consumers on a more level playing field may actually be what save the company’s prospects as a reliable supplier of natural gas to Europe. Events in Ukraine and other former Soviet nations have shown that attempts to browbeat governments into accepting long-term fixed prices or offering discounts in return for political concessions is ultimately bad for business. Such coercion encourages customers to seek out alternatives when they may not have otherwise done so. Indeed, this phenomenon is already underway in Europe, as evidenced by the opening of a liquefied natural gas (LNG) facility in Lithuania late last year. In extreme cases, it can even contribute to revolutions that overthrow leaders who may be sympathetic to Russian interests.

Only time will tell if Gazprom learns from its previous mistakes. Company officials may feel no great compulsion to change tactics, buoyed perhaps by the deal last year to pipe 38 bcm of natural gas to China. Yet that deal remains shrouded in questions, particularly a rather speculative timetable. Though potentially lucrative, Asia as whole does not by any means represent a panacea for Russia’s export concerns. In the case of LNG, Russia is far behind competitors in Australia and Qatar, who have already established firm stakes in the Asian market. Meanwhile, although Europe and Russia presently remain reliant on one another for energy and hard currency, Europeans are learning that they can do without as much Russian gas as previously believed. Ukraine is even reported to be exploring unconventional gas reserves with an eye to one day export domestically produced natural gas to its Western neighbors. In sum, Gazprom may not have as much time as it thinks.

Garret Mitchell is a third-year graduate student at the Elliott School of International Affairs. His focus is Russia.

Photo by Evgeny Gerashchenko is licensed under CC BY-SA 2.5. Image cropped.

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