EU freezes talks with Russia over gas pipelines in retaliation

By bne IntelliNews March 11, 2014

Tim Gosling in Prague -

The EU announced on March 10 that it is to postpone talks over issues relating to Russia's twin Nord Stream and South Stream gas pipelines to Europe, in a sign it's seeking leverage to apply against Moscow to reverse its takeover of Crimea.

With Russia and the West at an apparent standoff over the former's occupation of Crimea ahead of a scheduled referendum on secession by the peninsula, set for March 16, the EU is reported to be preparing sanctions against Moscow. However, with many member states wary of disrupting their economic relations with Russia, Brussels is investigating other avenues of applying pressure.

Brussels said that it intends to delay talks on the two giant pipelines - one built, one in the planning stages - designed to transport Russian gas direct into Europe, thus bypassing Ukraine's gas transit system, which currently carries about 15% of the EU's total gas consumption.

EU Energy Commissioner Gunther Oettinger said he will delay talks over the South Stream pipeline project, which aims to carry 63bn cubic metres (cm) via the Black Sea. At the same time, the European Commission delayed an agreement on expanding Gazprom's access to the Opal pipeline, which limits the capacity of the Nord Stream route that runs under the Baltic Sea to Germany.

The EU has been fighting Gazprom over these twin routes to directly serve European customers for some time, invoking its Third Energy Package regulations that demand gas suppliers must open up infrastructure to competitors. Russian President Vladimir Putin has called such demands "theft".

However, Brussels insists that contracts between Russia and Austria, Bulgaria, Croatia, Greece, Hungary, Slovenia and Serbia must be adapted to reflect the requirement. "I won't accelerate talks about pipelines such as South Stream for the time being. They will be delayed," Oettinger told the German daily Die Welt. His spokesperson added that the EU executive has to take into account broader political developments, including the Crimea crisis, reports EurActiv.

Analysts note the geopolitical considerations on both sides. "Before the recent crisis in Ukraine, we saw Gazprom's South Stream project as value-destroying," writes Uralsib. "We still believe that the project is unlikely to add value to Gazprom's export business if the crisis is resolved peacefully due to its high capex requirements (€23bn). On the other hand, Gazprom would be able to reduce its dependence on Ukrainian transit in the short term at almost no cost if it were able to get full access to Opal."

"Opal's spare capacity [about 18bn cm] is around 12% of Gazprom's planned 2014 exports to the EU," the Moscow-based investment bank adds.

Two-way street

Much has been made in the press of the role that Europe's Achilles' heel - its reliance on Russian gas - will play in how the bloc responds to Moscow's actions in the Ukraine. Yet with Moscow reported to be increasing its grip on Crimea and rejecting diplomatic proposals from Brussels and Washington, EU officials said on March 10 that sanctions now look inevitable.

The extent of the penalties is likely to be limited though, with German reliance on Russian gas in particular seen as a brake. "Germany's dependence on Russian gas may effectively decrease Europe's sovereignty," Polish Prime Minister Donald Tusk cautioned on March 10, according to Reuters, adding that action is needed "so that dependence on Russian gas doesn't paralyse Europe when it needs... a decisive stance."

The dependence, however, is a two-way street. Despite some attempts to open up gas exports to the east, Russia remains overwhelmingly dependent on European customers, and has few other options for the meantime.

Europe relies on Russian gas for around 30% of its total gas imports. Oil and gas accounts for more than half of Russia's federal budget, according to the US Energy Information Administration. The pipelines through Ukraine plug both into the relationship.

As the second biggest customer of Gazprom in Europe after Germany, Ukraine is also captive to the gas pipelines. Kyiv's overdue gas bill to Russia is being used as a stick by Moscow to beat a country close to economic meltdown, and Gazprom has already threatened it could cut off the country unless it pays up.

Yet this relationship is also symbiotic. Ukraine remains the main transit state for Russian gas flows to Europe, and the EU's move to limit Gazprom's direct links offer some protection.

"Despite efforts by Ukraine to reduce its reliance... gas supplies from Russia still account for nearly 100% of imports, and more than 60% of Ukraine's total gas consumption," points out Andrew Neff at IHS. "Likewise, although Gazprom has stepped up efforts to bypass Ukraine, including sending more gas to Europe via Belarus and the Nord Stream pipeline, as well as launching construction of the South Stream pipeline, the Russian gas giant still relies on Ukraine for transporting more than 50% of its total exports to Europe."

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