Gazprom turns up the heat as Europe sweats on energy security

14/05/2014 | Peter Guest

Energy security in central and western Europe has shot straight back to the top of the agenda following Russia’s annexation of the Crimea and its subsequent ratcheting up of pressure on Ukraine to settle its gas bills

With Alexei Miller, the CEO of Russian state owned energy company Gazprom, demanding on Monday that Ukraine pay its $3.5bn of bills as well June’s gas supply upfront by May 31 or be cut off, fears are growing about central and western Europe’s own energy supplies — and the impact on the economy.

Fitch Ratings has warned that an escalation of the crisis, leading to a cut to Russian gas supplies to Europe — which the ratings agency calls a “low-probability, high-impact scenario” — could derail the nascent economic recovery in CEE and the eurozone. A rise in the gas prices might lower the competitiveness of energy-dependent industries and weaken growth.

Russia supplies around 27% of Europe’s annual gas demand, and 40% of this is delivered through Ukrainian pipelines, and any disruption to supply could have a knock-on effect for other countries in the region. Bulgaria and the Czech Republic rely on Russia for 85% and 80% of their gas, respectively. Hungary, Poland and Slovakia are also heavily dependent on Russian imports.

“The biggest impact is the psychological impact,” says Harald Heubaum, an energy security expert at the Centre for International Studies and Diplomacy in London. “The uncertainty in itself could lead to price developments that would be negative for recovering economies across Europe.”

Russia used the same premise to turn off the taps to Ukraine in 2006 and 2009, and has a history of using discounted gas prices to exert leverage on Kiev. Then-president Viktor Yanukovych rejected a trade deal with the EU in 2013 in part due to Russia’s promise to supply gas at well below the market rate. With a new, pro-EU government in place in Ukraine, that discount has ended, sparking the latest argument over energy bills.

RUSSIAN SUPPLY INCREASES

The European Union’s long term ambition to break its dependence on Russian energy has been revived by the Ukraine crisis. However, the share of Russian gas in the European supply mix has actually increased over the past three years, as indigenous production declined. Investments in alternative supply routes have had mixed success.

The Nabucco pipeline from Turkey to Austria was abandoned in July 2013, and the capacity of the remaining completed and proposed infrastructure represents less than 20% of the supply coming from Russia. To break the link would require huge investments in liquefied natural gas terminals and energy efficiency.

“Europe simply can’t reduce Russia’s share of its gas imports through business as usual,” says Laurent Ruseckas, an energy analyst at IHS Global Insight. “The steps that would need to be taken would have to be dramatic, and far beyond what has been considered since 2009.”

The Russian government has also begun searching for alternative markets for its gas, with president Vladimir Putin due in Beijing next week to finalise a deal between Gazprom and China.

“That doesn’t make a lot of economic sense either, when you have two major pipelines to Europe and you’re planning another one,” said Marcus Svedberg, chief economist at East Capital. “Trying to get a good price out of China is obviously less likely than trying to sell to small European countries... My guess is that once the situation in Ukraine calms down, you’re going to hear a lot less about diversifying on both sides.”

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