Can Europe, together with the Japanese half, proceed to revenue from low cost Russian fuel with out succumbing to Russian vitality dominance? In keeping with a brand new paper from the Oxford Institute for Vitality Research (OIES), the EU shouldn’t shrink back from “countervailing measures”. However these ought to ideally take the type of a “grand discount” with Russia fairly than a confrontation.
As Gazprom’s fuel exports to Europe maintain rising – its market share, now at 33%, might rise to over 40% by 2035 – and relations with Russia appear to maintain getting worse, the query of how the EU ought to cope with its vitality dependence on Russia is turning into ever extra pressing.
Confrontation is one possibility. Is it clever – and even efficient?
The Atlantic Council – a bipartisan U.S. organisation that promotes U.S.-European relations, and has no love for Russia – has simply analysed the impact of the U.S. and E.U. sanctions on Russia’s vitality sector. It concludes that they’ve had a negligible impact.
Listed below are the takeaways from the Atlantic Council’s report (written by the way by senior fellow Bud Coote, who “beforehand spent 43 years with the Central Intelligence Company the place he helped set up and construct the CIA’s vitality program starting within the 1970s”):
- “Whereas sanctions have considerably impacted the Russian economic system, they missed their mark in terms of vitality. Russia’s oil manufacturing and funding is flourishing, rising yearly since sanctions have been imposed with manufacturing progress hitting an eleven 12 months excessive in 2016.
- Regardless that oil and fuel costs have dropped precipitously since 2014, Russia remains to be comfortably managing its vitality sector. Actually, the USA and the European Union could have executed Russia a favor, suspending excessive value initiatives, together with offshore Arctic improvement, that will not be financial at present costs.
- Russia’s vitality successes, together with progress on the Nord Stream 2 and TurkStream pipelines, have renewed political momentum for President Vladimir Putin and Moscowat dwelling and overseas.”
The conclusions of the report are neatly summarized in these infographics:
Ratcheting up the strain
So what then needs to be executed?
In keeping with the Atlantic Council, the implication is that the sanctions needs to be intensified. “Altering Russian conduct requires ratcheting up the strain”, writes Bud Coote. “This would come with tightening restrictions on participation in Russian vitality initiatives, together with by service firms, addressing overseas funding in present in addition to future oil and fuel improvement initiatives, and imposing stronger antitrust restrictions on Russian fuel exports.”
Clearly this course would make relations with Russia even worse and inaugurate a full-scale Chilly Vitality Warfare.
Opponents of Nord Stream 2, the deliberate new pipeline from Russia on to Germany, argue that it undermines the EU’s “Vitality Union” and will increase dependence on Russian fuel
One of many targets of the Atlantic Council – and others in Washington D.C. in addition to in Brussels – is Gazprom’s Nord Stream 2 undertaking. Opponents of Nord Stream 2, the deliberate new pipeline from Russia on to Germany, argue that it undermines the EU’s “Vitality Union” and will increase dependence on Russian fuel.
Specifically, the place of Ukraine, Poland and Japanese Europe is claimed to be undermined by the undertaking. One particular criticism of Nord Stream 2 is that, based on critics, it would permit Russia to chop off flows to Japanese Europe altogether – not merely the East-West flows, but in addition the West-East flows which can be prone to improve when the pipeline turns into operational.
As long-time Nord Stream 2 opponent Alan Riley, additionally a Senior Fellow on the Atlantic Council, factors out in a latest opinion piece on The Globalist: “The purpose usually neglected by German commentators is that Nord Stream 2 is not going to really carry far more fuel into the German market itself. As an alternative, the fuel will move onward eastward through NS2’s connecting pipeline EUGAL to the Czech Republic and Poland.”
“What Gazprom seeks to do is lock the CEE states right into a fuel market dominated by Gazprom with no apparent means out. Western Europe, for its half, will nonetheless have a diversified provided market”
In keeping with Riley, this new route will permit Gazprom to dam competing sources of fuel that may very well be delivered from Western Europe to East Europe: “The intention of this japanese move of Nord Stream fuel is to flood the west to east interconnectors with Gazprom fuel, successfully blocking entry to the Central and Japanese European (CEE) fuel market to its opponents”, Riley writes. “As well as, the surge of fuel flows from Nord Stream 2 can even undermine business incentives to develop different pipelines and new sources of provide throughout the CEE area.”
“In essence, what Gazprom seeks to do is lock the CEE states right into a fuel market dominated by Gazprom with no apparent means out”, Riley concludes. “Western Europe, for its half, will nonetheless have a diversified provided market. The CEE states could have a fuel market largely dominated by Gazprom.”
Is Riley proper?
Because it occurs, the German financial analysis institute EWI has simply revealed an evaluation of precisely this declare.
As one of many authors, Harald Hecking, describes the difficulty: “Numerous analyses have been revealed on the impression of the deliberate Nord Stream 2 pipeline on European fuel costs. A few of these declare that the deliberate pipeline contributes to a division of European markets and may very well be abused by the proprietor to play totally different market methods within the East and West. The speculation of a few of these stories is that Europe may very well be divided by inflicting congestion of pipeline capacities between East and West Europe by sending Nord Stream 2 fuel at low costs to Western Europe, whereas Japanese Europe, for lack of options, might solely supply fuel from the East, which might then be priced greater.”
Of their report, Hecking and his co-authors Martin Hintermayer and Florian Weiser analysed “whether or not this speculation has any advantage, utilizing present market knowledge and pipeline capacities”.
Their research, “Central European Gasoline Market Congestion Evaluation“, concludes that there isn’t a purpose to concern such an end result.
“The Nord Stream 2 pipeline can’t be used for market separation, beneath situations of present pipeline capability and native fuel consumption”, they be aware. “This is because of the truth that within the European inner market, based on the EU’s personal market guidelines, the importers and thus additionally the customers are protected towards such behaviour. Pipelines in Central Europe can’t be blocked from the use by different market individuals and the fuel exporter from Russia would threat violating its personal contractual obligations on this case.”
“The present design of the European inner market seems strong sufficient to preclude a market separation technique”
They add that “even when one ignores the truth of the fuel enterprise beneath laboratory situations … and moreover assumes elevated fuel demand, such a hypothetical technique for splitting the market could be neither profitable nor efficient. The doable returns from the upper costs in Japanese Europe could be eaten up by the loss from the extra prices of the discounted sale within the West, and as well as, Japanese European fuel importers would flip to different sources of provide as quickly as doable.”
The primary level of the EWI researchers is that “the present design of the European inner market seems strong sufficient to preclude a market separation technique. There may be and will probably be loads of spare capability that might allow Japanese Europe to import fuel from different sources making certain that Japanese Europe can’t be ‘break up off’ from the West.”
In different phrases, they discover that the concept Gazprom might block West-East flows to Japanese Europe is far-fetched. Up to now, when there have been nonetheless long-term contracts with vacation spot clauses and unbundled pipelines, this might certainly have occurred. However these options have been abolished by the EU’s new fuel market design.
As they put it: “It’s not doable for particular fuel suppliers to create congestion alongside particular pipelines, since fuel suppliers can solely e book entry / exit capacities into particular market areas whereas bodily flows are decided by the unbundled and controlled transmission system operators based mostly on capability bookings and move nominations at entry and exit factors. This holds particularly when making an allowance for digital flows. Because of this a line separating West and East … isn’t a viable idea when utilized to the EU fuel market, which relies on entry exit market zones.”
It needs to be famous that the EWI research was commissioned by Nord Stream 2, however then once more, Alan Riley is a paid advisor to the Ukranian and Polish fuel firms Naftogaz and PGNIG.
However, this doesn’t essentially imply that there isn’t a purpose for Europe to be involved about Russian dominance within the fuel sector. So what ought to the EU do?
“Gazprom has demonstrated a stage of flexibility in its pricing technique that has stored its fuel very aggressive, with the end result that its market share in Europe has grown to 35%”
Analysts James Henderson and Jack Sharples of the Oxford Institute for Vitality Research have additionally simply made a contribution to this debate. In an in depth new paper, they in impact settle for that Nord Stream 2 will turn into a actuality and that Gazprom’s dominance within the European fuel market will develop. They don’t think about this a catastrophe, however they do argue that the EU could be unwise to easily let this occur with out countervailing measures.
Let’s observe their evaluation in a bit extra element.
To begin with they be aware that Gazprom has these days definitely been on a successful streak: “Gazprom has confounded many expectations by having fun with two file years of fuel gross sales in Europe in 2016 and 2017”, they write. “Exterior elements have definitely performed a task in its success, with general European demand rebounding, indigenous manufacturing persevering with to fall and different sources of imports failing to ship on the anticipated ranges (particularly LNG). As well as, Gazprom has demonstrated a stage of flexibility in its pricing technique that has stored its fuel very aggressive, with the end result that its market share in Europe has grown to 35%.”
“The area’s import requirement is prone to rise, with Russian fuel and the worldwide LNG market as the one important sources of potential further provide”
The authors observe that “the anticipation that this determine might rise in the direction of 40% and above has led EU politicians and policy-makers to turn into involved about over-dependence on Russian fuel, and plenty of now want to make sure that Gazprom’s future choices are restricted by obstructing potential new pipelines. As well as the politics surrounding Ukraine, the imposition of stricter US sanctions, questions surrounding the DG COMP investigation into Gazprom’s actions and the Stockholm arbitration ruling over contracts with Ukraine add additional layers of complexity.”
So what’s their proposed answer?
They first got down to discover “whether or not Gazprom’s two anni mirabiles in 2016 and 2017 may be repeated or whether or not Russian fuel faces a tougher surroundings in the remainder of the last decade.”
They conclude that among the constructive tendencies for Gazprom “are set to proceed. The outlook for European fuel demand is fairly constructive, as though renewables will proceed to be the primary beneficiary of coal plant closures within the energy sector, fuel must also profit, if solely through the upper utilisation of present producing capability. In the meantime industrial and residential fuel demand ought to stay steady, whereas indigenous fuel manufacturing will inevitably fall additional as fields within the North Sea proceed to say no and the curbs on Groningen output doubtlessly turn into even stricter. Consequently, the area’s import requirement is prone to rise, with Russian fuel and the worldwide LNG market as the one important sources of potential further provide.”
“Gazprom’s large useful resource base and its comparatively low improvement and manufacturing prices imply that it is extremely effectively positioned to extend its share of the European market”
There may be some change on the horizon, with a “surge” in new LNG prone to arrive on the markets in 2019. Nonetheless, in the long term, “Gazprom’s large useful resource base and its comparatively low improvement and manufacturing prices imply that it is extremely effectively positioned to extend its share of the European market”, the authors be aware.
So market dominance by Gazprom is a real chance – and one thing of a risk: “… the corporate’s said view that it might have a market share in Europe of 40 per cent or extra by the 2030s may very well be achieved on a extra fast timescale. Regardless of any political points, this end result presents a safety of provide query for European policy-makers in pure business phrases, as having any provider take such a big share, particularly whereas indigenous manufacturing is in decline, is a dangerous proposition.”
In keeping with Henderson and Sharples, there are issues that the EU can do in response.
First, “the apparent reply is to create as a lot optionality as doable, and the European Fee is doing this by incentivising the interconnection of markets and the development of as a lot LNG receiving capability as doable, particularly in additional distant areas. Nonetheless, though this supplies the potential for diversification, if Russian fuel is the most cost effective possibility then its share will rise as prospects, with the doable exceptions of Poland and Lithuania, take the chance to minimise their vitality prices, as seen in 2016 and 2017.”
However, “on high of this, the politics clearly can’t be ignored”, the authors level out, “and each the EU and the US have made restraint of Russian fuel provide to Europe a geo-political precedence.”
“European politicians should resolve whether or not they want to restrict the provision of one of many continent’s most cost-effective sources of fuel or whether or not they’re ready to compromise by making certain that as many routes as doable are stored open”
The EU’s technique is concentrated particularly on Gazprom’s “export pipeline capability, the place Gazprom is already near the restrict in plenty of instructions. The vast majority of present spare capability is through Ukraine, the place the realities of Russia-EU relations collide, with the EU wanting to guard the Ukrainian transit route for political and business causes whereas Russia insists on making an attempt to maximise its bargaining energy by creating different routes comparable to Nord Stream 2 and TurkStream. In the meantime the US continues to make use of sanctions to assist Ukraine and to advertise the virtues of its personal fuel exports, albeit at the next worth than Russian fuel.”
Consequently, the authors be aware, “troublesome selections” are arising for European politicians, “regarding using the OPAL onshore pipeline by Gazprom, the principles governing Nord Stream 2, the pipelines that may promote Russian fuel despatched through TurkStream into Europe, and using Ukrainian transit all have to be made within the subsequent two years, as varied building milestones strategy. It’s doable, after all, Nord Stream 2 and TurkStream may very well be bodily constructed earlier than regulation points are finalised, if Gazprom needs to take the chance that they can’t be totally utilised.”
In the end, the OIES analysts be aware, EU leaders face a transparent alternative: “European politicians should resolve whether or not they want to restrict the provision of one of many continent’s most cost-effective sources of fuel or whether or not they’re ready to compromise by making certain that as many routes as doable are stored open, together with new pipelines via the Baltic and Black Seas. As well as, they should resolve what function, if any, the continued DG COMP investigation into Gazprom might play in facilitating or hindering an final deal as, though a decision seems to be shut, political obstacles nonetheless stay.”
“Total, it might seem grand discount is feasible”
Henderson and Sharples consider that, within the face of this alternative, the very best course could also be to intention for a “grand discount” with Russia.
“Total, it might seem grand discount is feasible”, they write, “which might see a compromise involving assured use of the Ukraine transit system whereas new pipelines are constructed, and with Gazprom agreeing to successfully change to market-based pricing for all its European prospects, whereas additionally abiding by Third Vitality Package deal guidelines.”
Subsequent 12 months may very well be the precise time for the EU to intention for such a “grand discount”: “The confluence of all of the components of the jigsaw seems to be approaching in 2019, when Nord Stream 2 and TurkStream are on account of be accomplished, the European Court docket of Justice is because of give a ultimate ruling on OPAL and the Ukrainian transit contract must be renegotiated, with an extra complication being that elections to the European parliament and elections in Ukraine are additionally due in 2019. In the identical 12 months, it might appear that competitors between fuel suppliers to Europe may be reaching a peak, which means that though Gazprom has loved two anni mirabiles in 2016 and 2017, the rest of the last decade could show tougher for its enterprise in Europe.”
This text was first revealed, a in barely totally different kind, on Vitality Publish Weekly, the premium web site of Vitality Publish, in Karel Beckman’s weekly part Vitality Watch. For those who don’t wish to miss out on Vitality Watch – and Sonja van Renssen’s weekly Brussels Insider part on EU vitality polices, you’ll be able to join a subscription right here.