The vast disparity in oil and gas resource endowments across the globe means that one country’s interest—be it economic or resource-based—will necessarily be mutually dependent on other nations. If you’re a resource owner, you need buyers; if you’re relatively less endowed, you’ll need willing sellers. Nowhere is this dynamic more apparent than in Russia-Europe natural gas trade.
In 2013, Europe consumed421 billion cubic meters (bcm) of natural gas, of whichalmost 32 percent, or 130 bcms, came from Russia. Conversely, 10 percent of Russia’s GDP comes from its natural gas sales to Europe. Russia’s existence is fundamentally dependent on European natural gas markets, while Europe dependson Russian gas to power its industries and warm its homes. Several alternate possibilities to the status quo exist–both for Russia to maintain revenue levels and for Europe to meet its carbon fuel demands—but few are easy, and none is without a cost.
As Russia today navigates the path towards its economic future in the midst ofincreasing economic sanctions by the West, Central Asia and East Asia are important regions demanding its attention. On one hand, Central Asian countries such as Kazakhstan, Turkmenistan and Azerbaijan are making their own bids to replace Russian gas currently purchased by Europe. On the other hand, China represents a customer base that is able to compensate for Russia’s potential loss in European demand.
Central Asia is the region nearest to Europe with the greatest alternative source of natural gas, and therefore the most threatening to Russia. The Trans-Anatolian Natural Gas Pipeline (TANAP), proposed in November 2011, is set to deliver gas from Shah Deniz gas fields in Azerbaijan, through Turkey to Europe. Azerbaijan and Turkey have agreed to buildthe pipeline starting in 2015. The initial capacity of the pipeline will transport 10 bcm a year to Europe with the potential expansion up to 31 bcm.
TheWhite Streamand theTrans-Caspianprojects (TCP) are other proposed pipelines from Central Asia to Europe. If built, the White Stream and TCP would transport 30 bcm of Turkmen gas a year under the Caspian Sea to Azerbaijan, through Romania, and into Ukraine, where it would meet existing pipelines to Central Europe. Altogether, these pipelines could replace half of the natural gas Gazprom exports to Europe.
Building alternate routes for Caspian gas to Europe would also benefit Central Asian suppliers by allowing them to raise prices. Their gas has historically been sold primarily to Russia at a discount. Russia has thus forced states in the region to rely on its purchases, which, by default, gives the Kremlin a say in their internal politics. This strategy has contributed to Gazprom’s economic success: it imports cheap gas, and exports it at significantly greater prices to Europe. As the West’s interest in Central Asian gas grows, though, Russia’s economy—and Gazprom’s business plan—is put under growing pressure.
Of course, Russia has not been idle when it comes to protecting its share of the European natural gas market. Gazprom’s 2010Nord Stream pipeline, and 2006 proposedSouth Stream pipeline, demonstrate Russia’s efforts to maintain a stronghold over its share of Europe’s natural gas. Nord Stream transports 55 bcm of Russian gas a year through the Baltic Sea into Germany; South Stream, if constructed, would transport an additional 63 bcm through the Black Sea into Bulgaria and up to Austria, avoiding Ukraine. However, the recent political turmoil in Ukraine has forced the European Union toreconsider its support of South Stream. Without the European Commission’s final approval, the proposed South Stream construction date of June 2014 will likely be delayed. In the meantime, Russia continues to court alternative buyers–most notably, China.
For over a decade, Russia has been in talks with China regarding a natural gas deal that would ensure its gas sales volumes were maintained even in the face of Western animosity and alternative gas supply to Europe from Central Asia. Since March, negotiations have resurfaced with a new sense of urgency. Gazprom’s CEO, Alexey Miller, and China National Petroleum Corp chairman, Zhou Jiping, haveheld numerous meetings in Beijing regarding a pipeline that would transport 38 bcm of natural gas from Russia to China per year. The pipeline is expected to cost Russia$22 billion and be subject to a 30-year contract for gas supplies.
Putin and crew talk about a China gas deal these days as if it is the panacea for Western hubris. Undoubtedly, though, China’s negotiating position has strengthened in recent weeks as it watches threats from the West envelop Russia in a cloud of economic uncertainty. Companies involved in China’s shale gas development have also been more active in providingupdateson ahead-of-schedule drilling activity through Chinese and international media. This is seemingly done to highlight the country’s alternatives to reaching a deal with Russia, however unrealistic they may be in the near- to medium-term.
Despite general agreement on the value of a long-term natural gas trade relationship, price has long been the sticking point for the two sides. The Russians likely asked for a price of$10-$11 per mmBtu (million British thermal units)in order to avoid being bid down by European trading partners who pay prices in the same range, while Chinais believed to have wanted $9 per mmBtu, which it pays to Turkmenistanunder a current contract that supplies roughly 20 percent of China’s imported gas. At the volumes anticipated, the revenue differential between gas sold at $11 per mmBtu versus $9 per mmBtu is roughly $2.7 billion a year, with gas sold at the latter price expecting to gross $12.1 billion annually (conversion:38 bcm = 1.34 bn mmBtu). In total, Gazprom’s natural gas exports are worth around$66 billion per year.
Putin will travel to China on May 20, by which time a deal with China is expected to be finalized. As Europe simultaneously continues talks with alternative suppliers like Central Asia, the world awaits what could very well be a marked shift in energy trade dynamics.