The economics of gas pipelines are simple – whom ever is first to build a pipeline guarantees a near monopoly over the supply of gas to that region. In this light, the motivation behind Russian gas monopoly Gazprom’s moves to prioritise transportation over production becomes clear. The politics of pipelines is more complex however; the recent wave of endorsement for the Nord Stream pipeline project should be seen as worrying.
Gazprom makes no secret of the fact that it wants to increase its market share of the European gas supply market from its current 28 per cent to 33 per cent by 2020. "In view of the inevitable decline in total production in Europe, our share will grow. In 2020, it will be no lower than 30 to 33 percent" said Gazprom Deputy Chief Executive Alexander Medvedev recently. He forecast Europe would require an additional 100 billion cubic meters of gas annually by 2020 at a minimum; delivering such an increase is a task of such enormity that it raises questions over its achievability.
The company needs to develop new gas fields, yet much of its investment is earmarked for building pipelines. The “Unified Gas Supply System” it operates comprises more than 158,000km of pipelines, making it the largest gas network in the world. A quarter of these lines are more than 30 years old and a further 40 per cent are over 20 years old. Hence, the company is both upgrading its ageing network and building new interconnectors as part of its policy of diversification to bypass “troublesome” transit states.
The company’s capital expenditure fell from £14 billion in 2008 to £9.4 billion in 2009 and it is production that is consuming the majority of this deficit; production investment has been reduced from £5.5 billion to £2.7 billion, while transportation investment has been raised to £6.7 billion - and now accounts for 60 per cent of total capital expenditure.
In the likely simultaneous event of prompt recovery in demand in both Europe and Russia, Gazprom’s maturing fields in west Siberia may be unable to cope, resulting in supply shortages. Traditionally, Russia has bridged any deficit in its production by importing gas from Central Asia. Geopolitical shifts in the region, however, are making the sustainability of this policy increasingly uncertain. Turkmenistan is currently building its own pipelines to China and Iran and since April has refused to sell to Gazprom below the price fixed in a December 2008 contract.
It has also expressed interest in supplying the proposed Nabucco pipeline to Europe. The link has European Union support and would be valuable in years of slack supply from Russia, but has been dogged by delays. Although the Nabucco line would not pose any serious threat to Russia, Moscow is keen to discourage the entry of this marginal source of gas into Europe, and has done so by promoting the South Stream project. In addition, Gazprom has expressed interest in buying up all the gas from Phase II of the Shah Deniz field in Azerbaijan, intended to supply the Nabucco pipeline. Without the Azerbaijani gas, Nabucco is unlikely to be viable any time in the future because alternative sources – from Iran and Iraq – are not currently available.
Completing the South Stream pipeline will further increase the export capacity of Russia, but this increase does not mean that Europe will not in the future, find itself facing a shortage of gas from Russia.
The main pipeline priority, shared by both Gazprom and the Russian government, is to redirect flows around Ukraine. This has been a consistent goal since 1996, when after several severe interruptions of gas supplies from Ukraine to Turkey via the then only existing “western” route, Gazprom announced that it would build a pipeline under the Black Sea called Blue Stream. Gazprom’s determination to bypass all transit states has grown over time to encompass Belarus and Poland.
The Nord Stream pipeline will be 1,220 kilometres long and will consist of two parallel lines. The first one, with a transmission capacity of around 27.5 billion cubic metres a year is due for completion in 2011. The second line is due to be completed in 2012, doubling annual capacity to around 55 billion cubic metres. This is enough to supply more than 25 million households in Europe. The gas will be transported from the Russian port of Vyborg along the Baltic seabed, to the German town of Greifswald. It will pass through Finnish, Swedish, Danish and German territorial waters and bypass the Baltic States and Poland.
Recent weeks have seen Sweden, Finland and Denmark all granting construction permits to the pipeline consortium, allowing it to start work early next spring. This wave of support appears somewhat surprising given the environmental and security-related obstacles previously invoked by all three parties. While Gazprom is the biggest shareholder in the Nord Stream project (51%), Germany’s biggest energy companies, E.ON Ruhrgas and Wintershall (part of BASF) each control 20 percent of the shares; the German ex-Chancellor Gerhard Schröder sits on its board. Hence, the approval of the pipeline from both Russia and Germany is now seen as a formality.
The approval of the Nord Stream project demonstrates the weakness of EU energy security policy on three fronts. Of late, EU member states have begun to work towards the diversification of supply of gas imports – away from Russia. Last January’s gas crisis portrayed Russia yet again, as an unreliable commercial partner and highlighted the need to develop new alternative routes. Nord Stream construction will begin next spring, with the pipeline expected to become fully operational by 2012. The Nabucco pipeline - which does not traverse Russian territory or use Russian gas, will not heat European households until at least 2015. Hardly the precedent EU member states had in mind.
The increasing prominence of Gazprom as the EU’s major energy supplier contradicts the very notion of the EU free market. Its primary purpose is to boost competition and ensure that European businesses and consumers alike benefit from the increased choice and competitive prices. Through the greater access afforded to a single supplier, Gazprom, EU Member states are rendering obsolete the very premise upon which the single market is based. As a result of projects like the Nord Stream and Russian-proposed South Stream pipelines, Gazprom will be dictating gas pricing and supply in Europe; this without consideration of its already near-monopoly in some member states such as Germany and Austria.
The recent progress of the Nord Stream pipeline toward construction, demonstrates a complete lack of unity in EU energy security policy. Nord Stream will allow Moscow to cut off gas deliveries to its Baltic and Eastern European neighbours through existing pipeline infrastructure without any political challenges from the heavy-weights of the EU that such moves would usually provoke. The fact that Germany is lobbying for this pipeline – it would guarantee their energy stability – is completely understandable, though it reveals the contempt shown by the ‘old’ EU Member States toward their ‘new’ Eastern counterparts; there will be no sacrifices in the name of EU solidarity.
It comes as no surprise then, that Polish and Baltic leaders have likened the Nord Stream pipeline project to the Molotov-Ribbentrop pact, under which, without consultation, the Soviet Union and Nazi Germany carved up the region in 1939.
Nonetheless, a change of political will might well be in the offing. The recent elections in Germany saw the pro-Kremlin Social Democratic Party lose its position in the Government of national unity; the new partner of Angela Merkel is the liberal FDP Party, known for its tougher stance toward Moscow. If Germany was to finally throw its weight firmly behind the Nabucco project, while at the same time insisting that Eastern European states’ interests are taken into account in relation to the Nord Stream pipeline construction, the EU could demonstrate its intolerance of the Kremlin’s politics in the region.
Of course, in the long-term, the sensible solution to the current gas dilemma would be provided by a booming renewables sector, which would not only enhance energy security, but also help curb climate change, providing jobs and sustainability in the process. If the EU is serious about boosting its renewable capacity, (the UK Government have recently moved on offshore wind farms) the Baltic States and Poland should welcome both developments whole-heartedly.