5. The increased politicization of Russian gas supplies INTRODUCTION Russian gas has been considered politically problematic for many years with the 2014 Ukraine crisis further entrenching such perceptions. Long forgotten were the early years of Soviet gas exports to Europe, when that new source of energy supply was welcomed as diversification away from the heavy dependence on oil from the Middle East, which had proven unreliable. True, there had been serious conflict over pipelines in the early 1980s when the United States imposed sanctions on equipment for new gas pipelines to Europe, but that may have done greater harm to relations between the USA and Europe than those between Europe and the Soviet Union, as Europe regarded the US initiatives as undue interference in European affairs rather than a matter of concern for European energy dependence. However, after some years of stagnant demand, Soviet gas exports grew again. Now they were generally regarded as very reliable - given the growing importance of gas as a hard-currency earner for the Soviet economy, the USSR could not afford to jeopardize its standing in the market. This understanding of the reciprocal self-interest in stable gas supplies was carried over to Russia after 1991, when international tensions also lessened. New concerns emerged, as the critical financial situation made importers fear that Russia would not be physically able to deliver contracted volumes of gas. Nevertheless, Russian gas was delivered to Western Europe without significant interruptions, and export volumes grew from slightly over 100 bcm in 1990 to more than 160 bcm in 2005. Changing Perceptions of Russian Gas A transformational moment came in January 2006, when a long-standing dispute between Russia and Ukraine over gas price and transit arrangements became acute, and Gazprom turned off supplies to Ukraine for three days in the middle of winter. Gazprom had pressed for an immediate price increase in order to equalize the levels to Ukraine with exports to The increased politic!- „■ ...................***** astern Europe in 2006; Ukraine wanted . IlC price rise (Pirani, 2007). RUssia "*u * \™m build-up period for 1 .c|v commercial, but it also had o iv i disPule *» bilateral and f nge Revolution' which had put 1^1^°^ due lo lhc 2004 menl i" power in Kiev. The Ukrainian !U • .nmg President and 8<>v- ff bV diverting some of the Russian tt thor,ties responded to the cut-Jucing the How of Russian K^T! °* J rise, the affected countries, as ^S^S^^ To M°SC°W'S gia, not on Ukraine. Although h t ^ ' P blamC ? Mastic decision to cut supplies anecLt 1 wh° made the rt nrofessionals at GaZ!c 0tal ev,dence indicates that the export professionals at Gazprom Export were opposed as thev were aware n( the serious repercussions that such a-n^ WZ y • L «*< taken hioh „« tl0n COuld have- U seems tnat the GaZpr°m' °r ^ P°liticia^ less concerned about European market sentiments and more focused on getting gas - and perhaps poh ical - relations with Ukraine on a new footing. It should also be noted that this occurred at a time of rising gas demand in Europe, when increasing exports from Russia seemed an obvious source of expanded supply- Seen from that angle, it might have been difficult for observers in Moscow to imagme that a dispute with Ukraine would disturb this picture. They were mistaken. For the importing countries in Western Europe, the episode ended the prevailing impression of Russian gas as being totally reliable and not affected by political considerations. This impression was reinforced by the second, even more serious, Russia-Ukraine gas conflict in January 2009, when supplies to Ukraine as well as transit were cut off completely for three and two weeks, respectively, creating serious problems in some importing countries (Stern et al., 2009). The origins of the conflict involved pricing, transit fees, organization of sales as well as handling of accumulated Ukrainian debts to Gazprom. After supplies to Ukraine were halted, alleged Ukrainian diversion of transit gas also became a major issue. Gazprom, as well as the Russian government, made concerted efforts to explain their position before and during the crisis. Although these problems were ultimately resolved by the signing of a new long-term agreement, the crisis had a profound and lasting negative effect on European attitudes to Russian gas. The main result was that the EU now aimed at reducing the region's vulnerability to high dependence on Russian gas. An important part of its new policy consisted of measures to integrate European markets, especially by building interconnectors and by ensuring more fuel-switching capacity that could be activated in case of a shortfall in supply. Also relevant was the development of an EU integrated energy and climate policy, which gained momentum after 2006, with general security-of-supply concerns, climate policy, and rising oil prices providing justification for new rules. I he \n <>/ Russian fiat hui parth also inspired by a growing distrust of Russian gy.s al., 2016:53.66). ..... J,%(| Russia reacted negatively to the policy initiatives introduc , lis Third Energy Package (see Chapter 4). The mitmiv^ ,ecJ in ■navas.ng competition. liberalizing prices and the break-up £u*d Z monopolies, especially the prevention of suppliers such as Gpe- "f construction all the relevant env ronm^^10" 1S °nly that ln the cour<* tCI see positively. (Nord C^ftfe1^ »* nonetheless, construction of the new pipeline proved controversial within tbe EU A key argument against it, voiced most strongly by Poland wis that it would limit the need for transit through Poland and Ukraine and could expose them to pressures from Russia, as disruptions in gas flows to them would no longer affect the important gas markets further west Strong commercial players supported the pipeline plan, however. Agreement was reached on construction of the 1224 km Nord Stream pipeline from Vyborg in Russia to Greifswald in Germany, with Nord Stream AG, a company owned by Gazprom (51 per cent), E.ON Ruhrgas, BASF/Wintershall, and later joined by Gasunie and GDF Suez. Work started in April 2010; the two strings of the pipeline were put into service in November 2011 and October 2012, respectively, with a total capacity of 55 bem (Nord Stream AG, 2014). Project completion was not achieved without hitches, however. The plan was to connect Nord Stream to the OPAL pipeline running 470 km from the Baltic Sea coast in Germany to the border of the Czech Republic (Figure 5.1). When this was originally constructed, Gazprom applied for exemption from third-party access rules; although the German regulator initially granted this for gas to be supplied to the Czech market via Brandov, in 2009 the European Commission reduced the available capacity to 50 per cent of the exit capacity, meaning that half the pipeline capacity would have to be offered to third parties (Yafimava, 2013:28, n. 101). That decision, grounded in internal market regulations, demonstrated to Russia that there would be limitations associated with the use of any new export pipeline projects. GAS FROM THE SOUTH The EU was also interested in diversification of supply sources (Umbach, 2010). An early example of this was the priority given to a southern Source: OPAL Gas Transport (2018) Figure 5.1 The OPAL pipeline corridor project intended to bring gas from Azerbaijan and Central Asia to Europe. This became the Nabucco project - developed with EU support from 2003 - which was to bring gas from Azerbaijan to Europe via Bulgaria as part of a major diversification effort, even as the EU was also providing encouragement to Nord Stream. However, in 2006 Russia launched the alternative South Stream project, a cooperative venture between Gazprom and Italian ENI, which would bring Russian gas into Bulgaria via the Black Sea and was intended to serve Southern Europe. This project was clearly in competition with Nabucco, but was initially not taken seriously by many in the West (Henderson and Pirani, 2014: 99). However, it soon became clear that this was serious, and was one reason why Nabucco was shelved in 2013 - even though at the time the official reason concerned not South Stream but rather a change in strategy by the resource owners of the Shah Deniz field in Azerbaijan. They now favoured another pipeline - the Trans-Adriatic Pipeline (TAP) - bringing their gas to Greece and Italy, with an initial capacity of 10 bcm. The demise of Nabucco meant that the Balkans north )f Greece would naturally be served by South Stream; and development of project continued, the r *« j0vm sumcd in 2012 °nstructi0l ^ ^lincs would |lilve '^ity of ,n»Ki« R,ls .....^T^sit^-i^^^ T5m~. within ^ prri-Saras' 3= s,:, coast via the Russian Sou*^"1* *est Siberf^*" «•? venture to construct the US$14 h n 'dor' " *° esubfoUV „,er-governmental agreements (Iga ^'"^ ^ the onshore hne ,nto Southern and p^" E"r°pea" »S However, the transit pipelines agreed unH u"r0p<: (S,ern « «L, 20!5- 2 key stumbhng block with the European r" ° 1GAs Were 10 they did not offer third-party accessm.11"138'0111 in their ,nitlal f<™ therefore in contravention of the ThirH R alternatlve suppliers and were ,he European Commission insisteH tl ^acka8e- ^ December 2013 ated, leaving the transit countries^withtth p,Tr?ral deals rene8°u-or face infringement proccduSTfi? Sm, 2014^ » 2014: A TURNING POINT? The crisis in Ukraine, with the ousting of the Russia-friendly President Yanukovych from power, the Russian annexation of Crimea and the violent conflict between the Ukrainian government and Russian-backed secessionists in Eastern Ukraine, had an immediate impact on gas relations between the two countries. Outstanding issues were brought up and connected to the broader political conflict. On 10 April, President Putin sent a letter to 18 heads of state, including the major importing countries, warning of possible supply disruptions if Ukraine's payment problems were not solved (Barsukov and Chernenko, 2014). Despite the obvious attempt to ignore the European Commission in favour of bilateral talks, the letter was answered by the President of the Commission on behalf of the member countries, who demanded respect for the sanctity of the long-term gas contracts between Gazprom and European importers (Letter, 2014). Gazprom halted deliveries of gas to Ukraine in June 2014, after Ukraine did not pay its accumulated debts following a significant increase in the gas price from Russia. In July 2014, the EU introduced sanctions on transfer of some technologies to the Russian energy sector (Statement 2014), although these were specifically designed so as not to affect Russian gas export, In the autumn of 2014, there were reports 0^mpUons m supplies to Poland, Slovakia and Germany (Russia s gas fight, 2014). These The tlobalizatfon of Russian gas disruptions were within the flexibility boundaries of G*zpro v,s exports contracts, but were widely interpreted as a protest a°nHr nUxport of Russian gas to Ukraine, by way of reverse flo^T^O West and an implicit threat prior to decisions on possible nei^ t( sanctions against Russia (Krajewski and Szary, 2014). -r-u. ^ro^ed tensions put the spotlight on the ambiguities anfi 1 The increased tensions pui mradictions in the EU's gas relations with Russia, which had been^t ,.g since 2006. Maintaining existing Russian gas supplies was an JmD v priority: limiting future expansion of Russia in the European market nt -~.„ K^nme an eoually urgent goal. This latter goal had been a* S ^ •-------1----------' dS argued above, part of the rationale ^^eveJop g but ffi^K by Sazprom. This shift in strategy raised the So of gas relations between Europe and Russia to a new level. ^"ot'Lsian pipeline initiatives had been raised earlier but had been bypassed by important actors who found it attractive to engage in pipeline projects that could create new channels for Russian gas into Europe for commercial reasons. In addition, some politicians were more concerned about diversification of supply routes than about Russian gas as such: in this sense, both Nord Stream and South Stream offered alternative supply routes, albeit from the same source. The crisis in Ukraine did not fundamentally change the situation, as it highlighted the need for diversification of transit routes, but it did alter the balance of stakeholder opinion against Russia. By early 2014, the misgivings about South Stream had already started to gain momentum. In March of that year the EU Energy Commissioner announced that talks over the pipeline would be delayed, reiterating that the project would need approval from the EU for its . onshore section from Bulgaria to Italy (Crooks, 2014). The British Foreign Secretary then encouraged EU members 'to back a British-led plan to wean Europe off Russian gas', with particular concern for south-eastern Europe (Stacey, 2014). And by May, the EU Energy Commissioner was cited as saying: 'These days, with Ukraine, we are more and more defensive related to Russian pipelines than one year ago ... These days, exemptions are not my priority for Gazprom' (Oliver, 2014). Further, the EU objected to the procurement process for the onshore pipeline in Bulgaria, and initiated proceedings against the Bulgarian government, insisting that pipeline construction be halted (EU tells, 2014). The onshore section of South Stream was suspended while Gazprom raised its objections to the decision of the European Commission. However, resistance to the plans for South Stream proved substantial; Gazprom and the Kremlin ultimately concluded that pipeline construction shoukl not proceed, prirnari| "" *"""«*"'" M,|d HOI be built. A second / U>e;u'se ine u,,.,, non-Oazprom gas This new rCg lr ^ of ^ capacity free undcrmined the^ability of the gave the finalI blow that cE0Alexey Miller announced that tl," 1 Decembe' 2014, Gazprom decision was interpreted as a major Tr ?*m had been cancelled. The seen the project as a prestigious additi President Putin- who had although some analysts maintained that* RuSSias gas exPort °Ptions^ uncertain and that cancelling it Wastu econ°mics of the project were reasons (Farchy and Oliver, 2014) F ^ COrrect decision for commercial to shift all the blame. News of the c n EU resistance made il possible tive message: following a meeting n was combined with a posi- it had been decided to build an alt Ku*s[m and Turkish presidents, project closed, 2014). ^ernative line to Turkey (South Stream TURKSTREAM (ItekS«^ South Stream project Lian gas acrJs the Blacl^ thence potenttally onto the European n^Q^S$^ 52). Another key difference was that South Stream inciuded plans for onshore sections on EU territory, whereas TurkStream would terminate m Tiirtosy The project was put on hold after a Russian fighter jet was shot down by Turkey on 24 November 2015. Later, political relations between Russia and Turkey were restored, and an agreement for construction of the pipeline was signed in October 2017 (TurkStream, n.d.). TurkStream is to consist initially of two 900 km offshore lines, each with 15.75 bem capacity. There is potential for a further two lines at some later date, depending on the success of the first half of the project. The first line is intended for deliveries to the Turkish market, thus replacing supplies currently delivered via Ukraine, Romania and Bulgaria. The second line is intended for onward delivery to the continental European market (Project - The TurkStream Pipeline, n.d.). In November 2018, Gazprom confirmed that the offshore sections of the pipeline had been completed, with the first gas scheduled to flow by the end of 2019 (Russia's Gazprom, 2018). lite globalization of Russian wis Gas pipelines In operation @ Compressor stations ■ " «i Ongoing project Prospective gas pipeline Source: TurkStream (2018) gas pipeline Figure 5.2 Route map of TurkStream Given that Gazprom's exports to Turkey remain strong, and that the older Blue Stream pipeline is being used at full capacity (16 bcm per year), the first line of TurkStream will undoubtedly reduce the transit of Russian gas via Ukraine by some 10-15 bcm per year. The key question concerns the second line, which has now been laid, and what will happen to that gas when it makes landfall in Turkey, as any supply destined for the EU will ultimately have to abide by Third Energy Package rules. There are three options on the table. The first is the proposed Poseidon pipeline from Greece to Italy, a joint venture project between DEPA (Greece) and Edison (Italy) (Poseidon, n.d.). If this option is chosen, the second line of TurkStream will terminate at Ipsala on the Turkey-Greece border. The second option is for Gazprom to request third-party access to the Trans-Adriatic Pipeline (TAP), which is also planned to run from Greece to Italy. However, TAP will have a capacity initially limited to 10 bcm, and may be expanded to 20 bcm only later, if requests are received from potential shippers (Trans-Adriatic Pipeline, n.d.). Tht'increased>o//V/ rtie foal option is the rev i,,/v,/(V,( ,„ft»structure. m November 201» 88,18 »nd m2 . "rkcy '"""Wmnec ,,,.,ns have been drawn up for '"J0,sou"i-easter„ p, ' 'nd'«»ing lhal ,0 start, 2019), with further el U'garia- Serbia • * this rou,e mjor Austrian hub at Bauni "SIOOs into Hunl " arC?nnec,or Serbia •South Stream Lite', „ow «• '"deed, lnis?* f dndo" towards the and its customers in .Jjjj * be the Whoever route is cho^Eur«Pe (Barsuko/20 Sh, a2pr°m second line of TurkStreamm °«"»aid gas delivers vJc'' as any of the three opS d " COnstra^ WuL.o °Pe V'a the nation around the availably S"'8 certa«"V conceivable tha neg0 cou,d a,so be eluded in a larger h!k 83510 Eurol* via lurksS NORD STREAM 2 Nord Stream 2 is planned as a new gas export pipeline under the Baltic Sea following a route very similar to the original Nord Stream pipeline, but with different starting points (Gas pipeline Nord Stream 2, n.d.) (Figure 5.3). Nord Stream 2 starts in Ust-Luga on the side of the Bay of Finland opposite Vyborg, which is the starting point for Nord Stream 1; the new pipeline will add a further 55 bem capacity to the existing line. However, although plans were discussed as early as 2012, implementation started only after the 2014 Ukraine crisis and has become mired in geopolitical debate. EU objections to Nord Stream 2 ostensibly concern the increase in Russia's gas export potential. As put by Maros Sefcovic, Vice President of the European Commission: Let me be very clear: the impact of the Nord Stream 2 project goes clearly beyond the legal discussions. Nord Stream 2 could alter the landscape of the EU's gas market while not giving access to a new source of supply or a new supplier, and further increasing excess capacity from Russia to the EU. (Sefcovic, 2016) In reality the resistance is closely linked to the EU's political support for Ukraine. Initially, the intention was to have the pipeline built and operated by a project company - New European Pipeline AG - jointly owned by Gas pipelines in operation Ongoing projects Source: Gazprom (2017) Nord Stream 2 gas pipeline Figure 5.3 Route map of Nord Stream 1 and Nord Stream 2 "'ion ,,j n Qvprom (51 per cent), eom ......'I.OMV. ersh.ill (|f) BNGIE Western tIlCrs withdrew ,„ 20| 6 after «„ • 1 SeluP ^ blocks u I .solution was found when the? lntervention from pi r lhe WCSlCrn lo - became a fully owned r C°mpanv n Jrel^x?^1 oflke- •gi„al partners now St???" "^TM* providing half of the capitaI ^ £ To achieve its goal 0f delayiL , a ?)' of the Pipeline the Commission haTa^^ preventi constructlon and the Third Energy Package ^"«npted to use regulatory issues frorn the case of OPAL, as they concer a application of ^ese differed key issues to be addressed - construct ™ °jjshorc Pipeline. The two approval - both appear to have been n iv* Permits and overall regulatory Gazprom faced challenges to its conit d (Yafimava'2017)- Initially, Nord Stream 2, as permits from Ri,«d °f the offshore sectlons of Germany were needed for lavineth• r ' Sweden' Denmark and By January 2019, the relevant permits ? rvnmark and Dineline r™T had been received from all except Germant ends Const™tion had commenced at the Russian and Danish regulatory approval remained complex, because in November 2017 the Danish Parliament had approved an amendment to its Continental Shelf Act, granting the government the right to block the construction of pipelines in the country's territorial waters on grounds of foreign policy, national security, and defence interests (Danish Parliament, 2017). This affected Nord Stream 2, which was planned to pass through Danish territorial waters around the island of Bornholm. An alternative route, launched in 2018, would only pass through the Exclusive Economic Zone (EEZ): there, the Danish authorities cannot block the pipeline, but could delay it by demanding impact assessments. With two applications already pending, a further was added in March 2019, when the Danish authorities requested an environmental impact assessment of a third potential route south of Bornholm, outside Denmark's territorial waters but still within its EEZ (Denmark asks, 2019). This process would involve new surveys and route planning that could delay the project by several months or even longer In June 2017 the European Commission decided to step up its own efforts and requested a mandate from the Council of the EU to negotiate an agreement with Russia concerning the operat. or|°f NordStrem 2 (European Commission, 2017b). However m f^£^^^ Legal Lvice concluded that there was ^SSSSSSt^St ment; further, that the Gas Directive (Directive imiinz /•/„• qlobalisation of Russian gas 92 . r„r the internal market in natural gas) 'does not aonli common rules loi fteinwra* i Rurooean Union 20 n*V? yS, Nord Stream 2 pipeline' (Council Vafi3 2017) In response, the European Commission announced its pr0po V aid " s D,rective (European Commission, 217c) clearly wa prepared to stretch the limits of its jurisdiction to achieve its po>* ™lsbv raising two key points. Firstly, it proposed changing the ogfte D^ivf from cuuul,,„!,,!, h upplkw 93 J, the Ic^/al outcomes plicanons for the treatment of, k , '"' ,eJ in 2019 are complex - ■ >' ,:U(iAl n,n,i ' T^fldd further tatric!^^ «'^r.Inked ■»*»«<* ...------------. ,uo become the focus of US ate> lhe Nom c, ' .0f the early 1980s when iheT""011' ^"ZitT™ * »*« has Mansion of Soviet gas exn0 ^minSin^8 °f lhe '*as the US ad^iS; ,ahre J*» on ^ 2] ^uld generate additional ^n»at ? eca^^ maJign activity^whJe simultaneously dLw??1" cou,d «* to finances revenUes it needs to defend itself aga^ tR H Ukraine substantial t ran 2018). The USA has also argued Ct ~<>n' (US" 'a ^Pt,ve °;TRu^a Hodgson, 2018) td^ W°Uld make G^ 0( Europe (Joint Statement, 2018) The that rt threat^s the security a non-binding resolution adoptedL°nCerns were a11 ^fleeted in 11 December 2018, with bi-partisan « USe of RePresentatives on solution urged the US president ton?? (US C°ngress' 2018>- The European energy security through n r available mean* to support ported the imposition of sanctions Jtt °f dlversification, and sup-Energy Secretary Rick Perry Warn^* respect t0 Nord Stream 2. US project and its participants remain. ara!-lmposin8 sanctions on the envoy, 2018). ^ a reaJ 0P*on for the White House (US Gazprom's response to this threat anH * European Commission, has been to m u Pr6SSUre applied b^ the although the European Parliament haTcTlktf ^ ^ Pr°jeCt Thus' the end of 2018, 300 km of the pinelin^ , I P5°jeCt terminati™, by 1200 km). Nord Stream 2 n$S^ T^ ^ M (of a total of gm °e 0Perational by the end of 2019. LNG from the USA Unlike the 1980s, the political arguments from the USA were mixed with direct US economic interests - the expansion of LNG exports to Europe (see Chapter 4). This element has also been central in official Russian responses, as in a Kremlin statement that argued 'Thus (Washington) is trying to hinder the implementation of the project, using all acceptable and unacceptable methods that are nothing more than veiled unfair competition' (Peskov, 2018). This response, from December 2018, showed that Russia had finally realized that gas exports from the USA represented a threat to its position in Europe. For many years Russia had refused to acknowledge the shale gas revolution as a reality; even in 2010, Gazprom CEO Alexey Miller had declared: 'the predominant assessment is that shale gas is a well-organized and well-financed information campaign, same as global warming or 1 The globalMlM oj Russian gas " riMm:....... US gas exports to Europe were dismil8ed|..... hiolucb (Minn-- ,0|9) \: alistic or propaganda ^ arHved jn sj NeW"|elrAt 0 8 emulated imports of US LNG 0> i, "'T" 2T'PY8 bcm n"c ming years the EU intends to suppo„ thf% had reached 18 bcm n infrastructure permttt.ng higher J> ^ ^rr^Eupean Commission, 2018). As a result, altho J*J from the USA (Eu.opean ^ ^ go, D, political intervention mEurorxangP y ^ ^ ;1r*5:£*^ obvious polittca, and implications for Russia (see Chapter 4). HOW MUCH PIPELINE CAPACITY IS NEEDED? Given this potential diversification, a key question becomes: How much Russian gas export capacity is needed? Since 2011 Russian gas has been supplied to Western Europe via three main corridors: via Ukraine, through Belarus and under the Baltic Sea. There are also 'dead-end' connections to Finland, Estonia, Latvia and Lithuania, while Turkey is served by a separate corridor - Blue Stream - under the Black Sea. The main transit pipeline through Ukraine enters Slovakia at Uzhgorod with a technical capacity of 72.2 bcm, with most of the capacity having been put in place in the 1980s (capacity figures from Pirani and Yafimava, 2016). A spur into Hungary can carry some 19 bcm, and there is a connection north into Poland which can take 4.2 bcm. A separate southerly line into Romania has a capacity of 23.8 bcm. Thus, total capacity through Ukraine is estimated at 119.2 bcm. Construction of the Yamal-Europe pipeline through Belarus and Poland started in 2004 and was brought up to full capacity in 2006 at some 32.3 bcm. Two smaller connections from Belarus into Poland have a capacity of 5.4 bcm. As mentioned above, the North Stream pipeline from Vyborg in Russia to Greifswald in Germany has a nameplate capacity of 55 bcm and was completed in 2012. The Blue Stream pipeline to Turkey adds a final 16 bcm of capacity; it has been in operation since 2003. Altogether, technical pipeline capacity into Western Europe has amounted to some 211.9 bcm since 2012, with Blue Stream bringing the total to around 228 bcm. In 2012, the actual volume of gas exported to Europe through these pipelines was 150 bcm. That meant a considerable overcapacity, even taking account of seasonal variations in volume, with supplies increasing sharply in winter months. In the following years there continued to be substantial spare capacity in the system, even though Ilu increased politic.,,, """""/«.mi„(|),(|( l( . $50 :(h) 150 100 50 0 H J l 20H 2015 2016 S~5" 2020 2025 2030 ■ Yamal Europe □ Other Poland Q Blue Stream □ Ukraine (realisticjBNord Stream 2 0 Turkish Stream — Nord Stream I Russian Exports Source: Gazprom, authors' analysis (NB: realistic Ukraine capacity assumed to be 120 bcm. Nameplate capacity is theoretically 151 bcm, according to Naftogaz Ukrainy) Figure 5.4 Russian gas exports to Europe compared to pipeline capacity exports were growing slowly, but this changed with the rapid rise in Russian gas exports from 2015. As shown in Figure 5.4, at the current level of sales to Europe, average annual utilization of Russia's export capacity has increased from 63 per cent in 2014 to 87 per cent in 2018. In peak demand winter months, the system is practically full. Indeed, even on an average basis, the Yamal-Europe, Blue Stream, and Nord Stream pipelines are running at over 90 per cent capacity utilization, leaving the politically sensitive Ukrainian route as the only option available for expansion (Investor Day, 2018, slide 30). Furthermore, the capacity of the Ukrainian system must be in some doubt. Although the nameplate figure is 151 bcm according to Naftogaz Ukrainy (Pirani and Yafimava, 2015), in reality not more than 120 bcm have been transported in the post-Soviet era, and lack of maintenance may mean that realistic current capacity is closer to 100 bcm. In that case, the average annual utilization of Russian export pipelines could currently be as high as 95 per cent overall - close to full. By the mid-2020s, if current trends continue, pipeline capacity may well be insufficient to transport all the Russian gas needed by Europe. Obviously, possible physical constraints could limit Russian exports to Europe. Discussions on the future of pipeline options in the Black Sea (TurkStream), the Baltic Sea (Nord Stream 2) and through Ukraine will The Qlobalizalion <>/ Russian gas be, iui ,o .he future of Europe** gas supply- with the debaie ,.„,, iTls,s ■„, „, 2019, when Russia and Ukrame reneg0|;a(/ comma for Russian gas to Europe. »e ^ It- OUTLOOK FOR UKRAINE • • D,.«ian-Ukraine relations has changed com ^ MTSS 5S ported 28 be, fn^J^ ably nee 20 4. ^ QnQ rf the b a, this all came from Gazprom, ma p*^ of Russian gas, on a level with taiy, reDresentin. cn bl«8est customer in Western Europe. The large volume *0 P* ^ of Ukrainian gas consumption (Naftogaz, 2019), seemed to indicate a country highly vulnerable to Russian pressure. The argument put f0rward earlier by Poland regarding Nord Stream therefore gained new relevance; if transit through Ukraine should become redundant, Russia could apply pressure via gas sales, without involving its Western customers. However, it should also be noted that Ukraine had been attempting to address this issue for some time, as its imports of gas from Russia had been on a downward trend since 2006 - indeed, volumes had almost halved since then, although their share of consumption remained relatively stable, reflecting a corresponding reduction in total consumption (Naftogaz, 2019). Nevertheless, it still came as a surprise that in the years after the 20J 4 crisis Ukraine managed to wean itself almost completely away from gas imports from Russia. According to Gazprom, its exports to Ukraine had fallen to 2.4 bem by 2016 (Gazprom in figures, 2013-2017); even more significantly, most of the decline in imports from Russia had been compensated by imports from the West - mainly Slovakia by way of reverse flow in the gas transit system. Gazprom and President Putin protested, arguing that 'reverse flows' were impossible and that the new supply was really Russian gas in the transit system that was now being diverted to Ukraine through swap arrangements with the Western buyers (Ukraine's reverse, 2014). Naftogaz, however, maintained that the pipeline system had backhaul capacity to take gas from the West, even though a virtual reverse flow of gas would be more rational (Koboiev, 2015). According to Naftogaz statistics, Ukrame imported 10.6 bem from the West in 2018 (Naftogaz, 2019); Although these imports gave rise to new contlVrsy m Russian-Ukrainian relations, developments since 2015 have effectively removed the issue of Ukraine's gas dependence on Russia from the agenda Ukraine s interest in maintaining transit of Russian gas over its territory is obvious, as this business provides substantial revenues - in 2017 esti mated at US$3 billion (Ukraine expects, 2011). Implementation of Nord TheincreasedpoltUci:an """""*'«W,„„.....u nl 2 and TurkStream would ''7 s,,V,iiisi(. Pacing these revenn. ', .he due to expi«^tiatio«s, in wh.ch U has % i" th0Se,n continue transiting gas because p«» to reduce transitv disputes, it has become Pi„ "res ectlve of the ^fjtt Russia will need^J SS»S The European Commission J he Ukraine transit system beyo^ ^ ukramian system, f ^ stressed its desire to suppo th wishing t0 maintain optional^ a political and a commercial per P ^ ukrame contmues fe around gas supply routes and ais ^ ^ economy (Toplensky, 2017). receive the annual transit tees so ^ Qazprom have expressed a Further, Southern European ^toi ^ current ukrainian desire to see volumes continue usA ha§ ^ annoimced itg system (Bypassing Ukraine, 201«, a Russia political support (US suppor , 27). £ ad ^ Gazprom initially asserted their desire t> re Ukraine to zero, they have conceded on more man uu y will continue to flow, even if at reduced volumes (Russia wants, 2019^ The consensus view would seem to be that, in the short term, some 50-90 bem of capacity will be needed. Although this requirement may fall in the mid-2020s, depending on the level of European demand and how many new export pipelines are completed, it is likely to rise again towards the end of the decade as Europe's import requirements continue to grow (Pirani, 2018). The key question, therefore, is whether it will be possible to achieve an overall agreement that provides a balance between the various transport routes, the findings of the Stockholm arbitration court, the requirements of the Third Energy Package regulations and the commercial requirements of Gazprom and its customers. The history of Ukraine-Russia negotiations indicates that discussions are likely to be taken to the wire - Ukraine's bargaining position has been enhanced by its newfound ability to survive without Russian gas supplies, thanks to its lower demand and the availability of reverse flow gas from Europe. The potentially fraught nature of the negotiations was indicated by Ukraine's suggestion that it mav increase transit fees sharply, to allow for lower utilization of its system^ S SSS tQCOnTs of f rian gas exports but ais° !-3S incentive for Gazprom to conclude a significant new deal (Bros 2016) Russia may bring up the old proposal of creating a cx,nsortiumT^ (transit system in Ukraine (Aslund. 2019) Th„ , i'K ..-..lions process involving R.,^;.. ,» c need for a continuous given the real po^i,it;^- - «-HU may become *tor ol the ^2t*J, itself as a natural SJU ^ ^ bargain to 0 eT ,1 " attempt l° ^ 'ports to Europe (EU offers 201 The Th p81™ ^ RuSSian "led general leverage to the EU whil ' rd tnergy Package has fEUgregulations on NorStream oTa,ntles —Mentation ifwith Russia. Russia undem nds t kT T?^ ^ fa neg°tia" tt a*h»t negotiation. n erStands thls logic well: President Putin has ^2jsm a rtransit contract with ukraj«e be am 2 ,s compIeted and—^and POLITICIZATION OR COMMERCIALIZATION Gas relations between Russia and Europe have become more politicized, with 2006,2009 and 2014 as specific milestones. The EU has attempted to halt expansion of Russian pipelines, partly with reference to the impact of new pipelines on the traditional transit countries (especially Ukraine but also Poland), and partly due to growing concerns that Russia's share of the European gas market is becoming too great. These attempts have been only partly successful. South Stream was cancelled, but it has re-emerged in a smaller version as TurkStream. Nord Stream was completed, but finalization of Nord Stream 2 remains an issue, although the EU has gained some leverage over Russian gas exports through regulations developed under the Third Energy Package. On a more fundamental level, the explanation of these mixed results must be sought in the dichotomy of Europe's position towards Russia, where it both needs Russian gas and does not want more Russian gas - with important European players holding conflicting views. Restricting the growing European dependence on Russian gas has been an important driver in development of the internal market in energy, as discussed in Chapter 4. In addition to liberalization of the gas market in terms of regulations, this has included infrastructure development, with the goal of reducing vulnerability to dependence on Russian gas. In fact, these policies may have worked to Russian advantage. With new regulations and infrastructure in place, importing Russian gas has become less risky, and this lower vulnerability may have inclined some importers to take more Russian gas than they would have done without the new inc,udin« intereonnectors and reverse ^ e capacitiesjde 1S at conditions, Russian','' FOf Tciers, A"d 0 th reducing the pre> JoW,:St,ea Lc more easily in ^ t] deny they ever wanted * r ;rfSJiand r>and]owerthan^I i2 «25^ upstream —nt, ^ £s make it harder to f"^ghas had a surplus of gas due to its Over the past decade, Gu^\mai Peninsula - precisely at a ^ *£i « fields on he tt- ^ ^ ^ economic^ when European demand went^into ^ ^ ^ However, that surplus will sooiv ^ ^ ^ deveJop and whethef and the company must decide no fa Europe> Qr it wishes to prioritize supply tor commercial and political markets in Asia. The answer f^*auldeitherenhmce Russia's long-consequences for all parties ™f^*™* \t which Gazprom accelerates standing ties with Europe or mark thepornm the diversification of its ^^^J!^^ is set t0 — East. But for the mid-term at least, the European m crucial to the financing of Gazprom - and thus most of the domestic gas crucial to me nnancing 01 v*p bud sector - and an important source of revenue wi uic i%u & If Russia had wanted to improve its standing in the European market, a strikingly different, albeit highly theoretical, solution could have been radical liberalization of the Russian gas sector, allowing not only the break-up of Gazprom and competition among domestic companies, but also upstream access and even participation in the domestic market by foreigners - thus depoliticizing the gas sector and perhaps assuaging political misgivings against increased Russian exports to Europe. However, even limited liberalization attempts within Russia have encountered strong resistance. A full opening of the sector appears unthinkable in a situation where so much basic scepticism towards the West remains. Thus, Gazprom and the Russian authorities have decided to follow a middle path and adapt to the new rules, perhaps realizing that these can allow them to exploit their competitive commercial advantages while avoiding some of the political difficulties. By following this strategy, Gazprom has actually encouraged greater dependence on Russian gas in Europe, at a time when most Western political leaders are keen to see the opposite occur. The irony of this outcome is surely not lost on the Kremlin However, while 'the West'has been preoccupied with mitigating the risks associated with its dependence on Russian gas, there has been less focus on TheTev IT dCnCe' bey°nd gCneral Statements of mutu^ fiance, me key difference between the reciprocal dependencies is one of timing The Increased polittctzmion of Russian gm ,uppll CS ]f are so concerner . wi can perhaps explain vvhv Fi.r ^W^of supply qUestion in Jgg- Pofeans so tontcrnt, .' |e disruption in gas supply C0llld ' J ™«'vely short-term. A larg, inJfflediate political crisis, given that enerJT , overn|gnt- parkin c iiiv government's function Over f «. PP y ls a core f°undatio ; Si**** of suppiy sout ssssrcould te dea,t wii Jt would not alleviate the short-tern, crisis t r , *megy ' b' Zeis long term, driven by the need for ™ ""^ R"Ssia 8 depen< f nmvide exoort inrnm«7 Tíorrevenues «o sustain its gas indust, a„d provide export mcomes to the state coffers, in 2017 34 per cent c Gazprom s total revenues and 66 5 ner „r; J"11''3* ^ fm ( vn„rtc a. d P r cent of lts net gas revenues derive from export to the European market (Management Report, 2017: 34 approximately 4.2 per cent of total federal budget revenues came fro: taxes on gas exports, with the 30 per cent export tax being the largest co, tributor. Although this revenue contribution is not as significant as th from the oil sector, there is no denying that an important source of funi for the Russian state budget comes from sales of gas to Europe. Thus, it more realistic to see expansion into markets in Asia, as explored in the ne chapter, as an addition, rather than an alternative to, the European markc