Chapter 11 The EU’s Energy Relationship with Russia

Between Resilience and Engagement

In: Principled Pragmatism in Practice
Author: Marco Siddi
Full Access

1 Introduction

Energy security is one of the key policy fields mentioned in the five principles guiding the EU’s approach to Russia, which were outlined by High Representative for Foreign Affairs and Security Policy Federica Mogherini and endorsed by the EU’s Foreign Affairs Council in March 2016. Energy security is included under the third principle, which concerns strengthening the EU’s internal resilience, next to hybrid threats and strategic communication.1 However, due to their largely transactional and cooperative nature, EU-Russia energy relations can be seen as falling under the fourth principle too, which focuses on selective engagement with Russia in areas ‘where there is a clear European Union’s interest’.2 As Russia is the main external supplier of fossil fuels to the EU, and as it is in the EU’s economic interest to maintain this trade with Moscow, energy can be considered an area where engagement with Russia is necessary.

The pertinence of both the third and the fourth principles to the energy relationship reveals a crucial duality in the EU’s approach to Russia after the Ukraine crisis. From a political perspective, EU Member States such as Poland and the Baltics consider dependence on Russian energy supplies as a security issue. This contributes to explaining why energy was included under the third principle. To tackle energy security concerns, the EU also adopted an Energy Security Strategy (in May 2014) and the Energy Union framework (in February 2015), which included among their goals the diversification of energy suppliers and strengthening resilience against supply shock–induced energy crises.3

Despite the persistence of serious disagreements between Brussels and Moscow especially in the security, legal and normative arenas, EU-Russia energy trade has experienced a considerable increase since 2016, particularly with regard to gas.4 This development reflects the other aspect of the EU’s dual approach: from an economic perspective, the EU finds it beneficial to cooperate with Russia in the energy domain. The EU and Russia remain interdependent in the sphere of energy, which is thus one of the few sectors where a substantial level of cooperation has continued after the Ukraine crisis.5

This chapter explores the duality in the EU’s approach to energy relations with Russia. The analysis proceeds as follows. It begins by outlining the implications of the Ukraine crisis for EU energy relations with Russia. The five principles are put into the context of the crisis and of relevant EU policy responses (such as the Energy Union), as well as of the market developments that impinge on political choices. Subsequently, the chapter discusses the measures undertaken to strengthen the EU’s resilience in the energy domain. It argues that energy policy is a complex field where numerous factors matter. Within the EU, it is an area of shared competence between the Union and its Member States – as specified in Article 194 of the Treaty on the Functioning of the European Union (tfeu) – many of which have very different national energy portfolios and diverging attitudes towards Russian energy imports.6 EU and national legal frameworks exist, which are generally oriented towards the competitiveness and liberalisation of energy markets and thus towards curbing political interference in them.

Moreover, commercial actors contribute to shaping European energy policy and de facto ‘do the business on the ground’; that is, they carry out energy trade. When doing so, their choices are shaped by economic considerations (such as the cost and reliability of energy supplies) and generally less by political or ideological ones. Hence, in the context of energy policy, the five principles can function only as broad and general political guidelines, leaving plenty of discretion to EU Member States and commercial actors on how to interpret them and do energy policy in practice. This is particularly true as, in the spirit of the five principles, energy policy can be seen as an area where the EU should strengthen its resilience vis-à-vis Russia and as a field of selective engagement with Moscow.

2 EU Energy Policy Responses to the Ukraine Crisis

When the Ukraine crisis escalated in early 2014 and the EU imposed sanctions on Russia, energy security was one of the main concerns among policy-makers in Brussels. Russian energy supplies covered approximately 40% of the gas, 33% of the crude oil and 29% of the solid fuels imported by the EU.7 Gas was seen as the most politically sensitive commodity because gas transportation is technically more difficult and diversifying suppliers requires large, long-term investments into pipelines or liquefied natural gas (lng) terminals. Since approximately half of the EU’s imports of Russian gas were channelled via Ukraine, it was feared that EU energy security would fall victim to the political crisis, and that Europe would experience gas shortages such as those caused by the Russian-Ukrainian gas transit crisis of January 2009.8 This concern was particularly strong in Eastern European countries that were more dependent on Russian gas supplies such as Latvia, Bulgaria and Slovakia.

In this context, the EU and its Member States agreed to draft the 2014 European Energy Security Strategy and the 2015 Energy Union framework. The implementation of the Energy Union was made a priority of the newly appointed European Commission presided by Jean-Claude Juncker. The Energy Union focused on increasing energy security and solidarity, creating an integrated EU energy market, improving energy efficiency, decarbonising the economy and supporting innovation and competitiveness. To strengthen energy security, the Energy Union envisaged the construction of new pipelines – most notably, the Southern Gas Corridor9 – and of lng terminals to import non-Russian gas. With regard to Russia, the Energy Union framework adopted a cold and wary approach, arguing that ‘when the conditions are right, the EU will consider reframing the energy relationship with Russia based on a level playing field in terms of market opening, fair competition, environmental protection and safety, for the mutual benefit of both sides’.10

Eventually, in 2014–2015, a Russian-Ukrainian gas transit crisis comparable to that of 2009 was avoided thanks to successful trilateral negotiations between the EU, Russia and Ukraine, as well as to Russian and Ukrainian willingness to shelter their lucrative gas trade from the political crisis.11 As during the Cold War, EU-Russia gas trade continued and even intensified amidst political tensions.12 Part of the reason why trade continued is that Russia is at least as dependent as the EU is on this energy relationship. Most of Russian oil and gas exports, which are vital to the Russian state budget, are sold in the EU market and cannot easily be reoriented towards other markets.13 During the summer of 2015, Western European companies and the Russian state company Gazprom even developed a new large-scale project to export Russian gas to the EU, Nord Stream 2.

Nevertheless, the political climate around energy cooperation remained difficult. Eastern EU members such as Poland and the Baltic States remained fiercely critical of further energy trade with Russia and attempted to shape EU policy accordingly.14 In 2015, the European Commission proceeded with an antitrust investigation against Gazprom, which it had launched in 2012 on Lithuania’s request and claims that Gazprom was abusing its monopolistic position in East-Central European markets.15 Moreover, in late 2013, the Commission stated that the intergovernmental agreements signed by Russia and EU Member States to build the South Stream pipeline (another large-scale project to export Russian gas to the EU) did not conform to EU law. Together with the escalating tensions in Ukraine, this led Russia to cancel the South Stream project in late 2014.16

In the months preceding Mogherini’s announcement of the five principles, EU-Russia relations were negatively affected by the lack of implementation of the Minsk 2 agreement, allegations of Russian disinformation campaigns in the EU and Russia’s military intervention in the Syrian civil war. The five principles were a response to this tense climate and sought to combine a firm and critical stance with selective engagement. Tensions affected the way energy relations were conceived in the five principles. The inclusion of energy under the third principle highlighted concerns about the security of supply, and reflected the political aspect of the EU’s dual approach to energy relations with Russia. According to the third principle, strengthening the EU’s energy resilience vis-à-vis dependence on Russian energy supplies is a key goal of EU energy policy.

In the past five years, the EU made considerable progress in reducing its vulnerability to disruptions in Russian gas supplies, while at the same time continuing energy trade with Russia. Some of the most dependent countries have developed alternative routes. Lithuania opened an lng terminal in late 2014; Latvia expanded its gas storage capacity; Slovakia, Hungary and Poland have built interconnecting pipelines, and further interconnections have been planned. The possibility of reverse flows of gas from West to East strengthened the energy security of Eastern members; Ukraine benefitted from this technology too. As the Energy Union framework has been implemented, interconnections between the energy systems of Member States have improved and the possibility of external supply shocks affecting one or a group of countries has diminished.17

At the same time, the EU-Russia gas relationship has been rendered more predictable by the resolution of long-standing disputes, most notably the European Commission’s antitrust investigation concerning Gazprom and Russia’s complaint at the World Trade Organisation (wto) against some key EU market regulations (the third energy package). As shown below, the settlement of the antitrust case between the European Commission and Gazprom has reduced the potential for legal conflict in EU-Russia gas trade and contributed to the integration of the EU gas market. However, disagreements persist among EU Member States regarding the desirable EU stance vis-à-vis Russian energy exports, and particularly new infrastructural projects such as Nord Stream 2. The project has ignited heated debates within the EU, where some East-Central Member States staunchly oppose the project. Conversely, Russia’s main import partners in Western Europe seem happy to continue and even increase their energy purchases from Russia. The United States has intervened in the debate, too, by threatening to sanction European companies that are involved in the project and advocating its prospective lng exports as an alternative.

3 Main Developments in EU-Russia Energy Trade after the Five Principles18

Russian gas exports to Europe rose to unprecedented records from 2016 to 2018. According to Gazprom’s data, around 201 billion cubic metres (bcm) of gas were exported to Europe and Turkey in 2018, compared to 192.2 bcm in 2017 and 158.6 in 2015.19 This performance may appear surprising, given the context of political crises and reciprocal sanctions between the EU and Russia (which have nonetheless left the energy sector largely unscathed). The rise in Russian gas supplies to Europe is due to commercial and contextual factors that have little to do with politics. In other words, growing gas flows reflect the economic component of the EU’s dual approach to energy relations with Russia. From 2015 to 2017, the EU saw considerable growth in gas demand, which reached 548 bcm/year in 2017. This is 76 bcm higher than in 2014 (even though it is still below the peak of 585 bcm reached in 2010).20 The economic recovery in Europe, decreasing gas production in the EU, lower Russian gas prices and the limited availability of non-Russian lng in the European market were among the main commercial reasons. Cold winter temperatures and increased coal to gas switching in some European countries also boosted gas demand.

Growing demand has been accompanied by decreasing indigenous production in the EU, from 300 bcm in 2010 to 250 bcm in 2016. This was mostly due to the progressive depletion of North Sea resources and cuts in production in Groningen, the Netherlands, because of related seismic activity. Hence, Europe’s growing demand for external gas supplies has been satisfied primarily by Russian gas. Following pressure from the European Commission and its customers, Gazprom has partly renegotiated the terms of its supply contracts by adopting market-based pricing in place of oil-linked prices. Together with the rouble’s weakness (which reduces the domestic cost base for Gazprom in US dollar terms), this has made Russian gas more competitive.21

The availability of sufficient reserves and spare infrastructural capacity have also played an important role. While Gazprom was able to sustain increased supplies of gas to the EU, other exporters such as Algeria (the third-largest external supplier of gas to the EU after Russia and Norway) saw a 14% decline in pipeline exports in 2017. Not only did Gazprom use the Nord Stream and Yamal-Europe (via Poland/Belarus) pipelines at near full capacity, it also increased the gas it exported via Ukraine by 13.7%, reaching a total volume of 93.5 bcm in 2017, the highest figure since 2011.22 Despite the continuation of political tensions with the EU, Russian companies felt confident enough to implement new infrastructural projects for the export of gas to Europe and beyond. This included the launch of the Yamal lng project in December 2017 and the ongoing construction of the TurkStream and Nord Stream 2 pipelines.

On the other hand, lng’s competition with Russian gas has been weaker than expected. This was the result of delays in some lng projects and especially of higher lng demand in Asia (particularly China), which remains the primary market for lng due to higher demand and prices. The availability of lng in the European market began to increase in 2017 and may continue to do so in the next five years depending on demand in Asia. In a scenario of lower Asian demand, lng from the United States (the closest prospective large supplier to Europe) could compete with Gazprom and other pipeline suppliers for some shares of the European market.23 The availability of lng from the United States or Qatar contributes to the resilience of the European energy market by providing an alternative to pipeline gas. Russian gas shipped via pipeline tends to be cheaper than lng, which explains why European commercial actors have preferred and may continue to prefer additional imports of Russian gas. Growing EU imports of Russian gas do not necessarily have a negative impact on European energy security thanks to the possibility of using the large spare capacity in lng terminals to switch to lng imports from other countries, depending on the commercial or political circumstances.

4 Settling EU-Russia Energy Disputes: The Antitrust and wto Cases

While developing alternative supply options strengthens the EU’s resilience, agreement with suppliers on the rules regulating energy trade is no less important. This is particularly true of EU-Russia energy relations, where the two sides have sometimes held different views. The EU has focused on the liberalisation of its energy market, promoting competition between energy importers to achieve security of supply and cheaper prices for domestic consumers. On the other hand, as a major energy exporter Russia has focused on the security of demand by minimising price volatility, countering the competition of other suppliers and concluding long-term contracts with its customers, which help cover the costs of building and maintaining the necessary export infrastructure.24

The different priorities of the EU and Russia regarding energy trade has complicated the pursuit of shared practices and norms. In East-Central Europe, Gazprom has been accused of monopolistic behaviour, which led the European Commission to investigate the company’s practices. In 2011, the Commission launched an antitrust investigation and, subsequently, accused Gazprom of abusing its dominant market position in Eastern Europe. According to the Commission, Gazprom’s contracts in the region hindered the cross-border flow of gas, which resulted in the fragmentation of the regional market and different prices from country to country.25

However, in the ensuing negotiations, Gazprom committed to removing contractual barriers to the cross-border flow of gas. It also linked gas prices in Eastern EU members to benchmark prices in Western European hubs. Gazprom’s commitments will adjust prices in Eastern European markets that are isolated due to the lack of infrastructure to market-based prices in Western Europe. They are thus conducive to the further integration of the EU energy market. As a result, in May 2018 the European Commission ended its antitrust case against Gazprom, arguing that it had secured substantial commitments from the Russian company on more competitive prices and greater market integration for Eastern European Member States.

By making these commitments, Gazprom has avoided a fine being imposed by the European Commission. However, the Russian company had to make important concessions, and essentially change its marketing strategy from oil-linked contracts to more market-based and, at present, lower prices. Failure to honour the commitments could still lead to Gazprom being fined over the next eight years.26 The resolution of the antitrust investigation on terms that are favourable to the EU, and are also accepted by Russia, has contributed to the EU’s energy security. The EU’s competition policy has helped correct Gazprom’s modus operandi in the European market in a way that is functional to market integration and competition, thereby also strengthening the Union’s resilience to energy supply shocks.

Moreover, in mid-August 2018 the wto published its ruling on Russia’s complaint against the EU concerning certain provisions of the third energy package, duly ending the other main dispute concerning EU-Russia gas relations. The European Commission had introduced the third energy package in 2009 with the aim of integrating the EU’s energy market and increasing competition. One of its central requirements is unbundling the ownership of energy production and supply from that of energy transportation.

In April 2014, Russia had filed a complaint with the wto about this legislation, arguing that it treated Russian gas and gas transportation services unfairly. However, the wto ruled that the main principles of the third energy package are lawful. On the other hand, it also stated that some of its aspects were not in line with wto norms. Most notably, this concerned a 50% cap imposed by the EU on the utilisation capacity of the opal pipeline, a land-based continuation of the Nord Stream pipeline, which de facto artificially constrained the use of the latter. The wto ruling also stated that the EU’s Trans-European Networks for Energy (ten-e) strategy, which aims at linking the infrastructure of EU members, is inconsistent with wto law because it provides most favourable conditions for the transportation of natural gas of any origin other than Russian (thus discriminating against the latter).27

Both the EU and Russia issued positive comments about the wto ruling, despite their decision to appeal certain issues of law and legal interpretations in the panel report. The EU was satisfied with the overall wto assessment of the third energy package. In the years after Russia filed the complaint, Gazprom had largely adjusted its strategy to this new legislation. For the Russian company, the wto pronouncement on the ten-e strategy and the opal pipeline are seen as the main achievements. The wto’s view on opal strengthens the case for fuller utilisation of the Nord Stream pipeline and can constitute a precedent for the Nord Stream 2 project. Overall, while the two sides may not be entirely satisfied with some of its aspects, the wto ruling has helped clarify the rules of EU-Russia gas trade. The clarification of regulatory aspects catalyses trade and is thus functional to the economic component of the EU’s dual approach to Russia in the field of energy.

5 Russia’s New Projects: lng, TurkStream and Nord Stream 2

While market developments and the resolution of commercial disputes with Gazprom strengthened EU-Russia energy relations, new large-scale energy projects led by Russian companies have generated controversy and even acrimony within the EU. All too often, the internal EU discussion is shaped by (and becomes acrimonious because of) political considerations that are at best marginally related to achieving energy security and resilience.28 The broader political crisis in EU-Russia relations has influenced discussions on new energy projects, sometimes overshadowing more important (for the purposes of energy security) considerations on the functioning of energy markets and trade. While some politicians and commentators continue to fear the deployment of a hypothetical Russian ‘energy weapon’, the availability of different suppliers, the integration of the EU’s internal energy market and Russia’s dependence on this market for its national budget have strengthened considerably the EU’s resilience and decreased its exposure to ‘energy blackmail’.29

Against this background, the new projects of Russian energy companies should be seen primarily as attempts to retain their shares in the European market in the face of growing competition, as well as ways of bypassing political issues (such as conflicts over Ukrainian gas transit) that have been exacerbated by Putin’s foreign policy. It is highly unlikely that these new projects will play a decisive role in terms of possible foreign policy goals (such as coercing Ukraine into a Russian sphere of influence) or undermine the EU’s energy security. The main risk for the EU is that if Member States take intransigent stances towards each other, and some even see the new projects as ‘hybrid weapons’, the EU’s internal coherence will be undermined.

In 2018, the first large project that can export Russian lng to the European market was launched – even though most of its gas might, in fact, go to Asia. Yamal lng is expected to produce 16.5 million tons of lng per year from 2019. The project was developed by a consortium including Russia’s Novatek, France’s Total, the China National Petroleum Corporation and the Silk Road Fund. Yamal lng is also significant because Novatek, the Russian consortium leader, is a private company, unlike state giant Gazprom. The project was completed on time and within budget despite being targeted by US sanctions. This was possible thanks to Chinese lenders, who swiftly replaced Western investment, and the switching of financing from dollars to euros.30

The TurkStream project has also been completed. Together with the Nord Stream pipelines, TurkStream is part of Gazprom’s strategy to reduce drastically gas transit in Ukraine. It can transport 31.5 bcm/year of gas to Turkey and the EU along a route that goes from Russia’s Black Sea coast to European Turkey under the Black Sea. Gas started flowing through the pipeline in January 2020. The first string of TurkStream (with half the total capacity) will replace Russian gas exports to Turkey that were previously transported via Ukraine and the Balkans. The second string of the project is mostly intended for exports to Southeast and Southern Europe. This section of the project will end at the Turkish-EU border, where it will be linked to EU interconnectors.31

Nord Stream 2 is the new Gazprom-led project that has aroused more controversy in the EU. With a capacity of 55 bcm/year, it will carry gas from the Russian Baltic Sea coast to Germany via an offshore route running parallel to the already existing Nord Stream pipeline. Following its completion, the total capacity of the Nord Stream route will rise to 110 bcm/year, making it the main export corridor for Russian gas to Europe.32 The project was announced in the summer of 2015 by a consortium including Gazprom, German companies Uniper and Wintershall, France’s Engie, Austria’s ömv and Dutch/British Shell. Its proponents argued that Nord Stream 2 will connect Gazprom’s newer gas fields in the Yamal Peninsula to its bigger customers in Western Europe through a shorter route without transit-related risks and fees. However, the project soon attracted criticism, with opponents arguing that it will consolidate Gazprom’s position in the European energy market, weakening Ukraine’s role as a gas transit country and thus its strategic leverage vis-à-vis Moscow in the ongoing political crisis.

Poland, the Baltic states, Romania and Slovakia have consistently opposed the project. Their opposition tends to be explained by a number of factors including strategic reasons (notably the loss of their current strategic importance as transit countries), the intention to diversify energy imports away from Russia and concerns about being bypassed by the main flows of East-West energy trade. Long-standing fear of Russia and of German-Russian cooperation also play a role in Poland and the Baltic states. Slovakia also sees its substantial revenues from transit fees (€355 million in 2015) as being endangered.33 On the other hand, Germany and Austria have emerged as the main advocates of the project. France and the Netherlands appear amenable to it as well due to the involvement of domestic corporate interests. The main argument that has been put forward to support the project is that it follows commercial logic by linking suppliers and customers with competitively priced gas. It has been argued that Nord Stream 2 can provide cheap gas to compensate for dwindling North Sea gas production. It will also meet further demand that will stem from the closure of nuclear power plants in Germany and the need to switch energy consumption from more polluting coal and oil to gas. The controversy around Nord Stream 2 reflects the tension inherent in the EU’s dual approach to energy relations with Russia. On the one hand, the economic drivers of the relationship advocate the construction of the pipeline, citing commercial reasons. On the other hand, opponents argue against the project by focusing on political arguments such as solidarity with Ukraine and Russia’s aggressive foreign policy.

Caught between opposing views at the Member State level, EU institutions have taken different stances towards Nord Stream 2. The European Commission opposed the project. In June 2017, it requested a mandate from the Council of the EU to negotiate an agreement with Russia concerning the operation of Nord Stream 2, arguing that it was necessary to define a legal framework. The request seemed to respond to pressure by Member States opposing Nord Stream 2 and had the apparent goal of limiting Gazprom’s ability to use the pipeline’s capacity. However, the Legal Service of the Council concluded that there was no legal basis for an EU-Russia agreement concerning the project. It also stated that the third energy package does not apply to the Nord Stream 2 pipeline.34 The reasoning of the Legal Service of the Council reflects existing precedents: pipelines from non-EU countries have been built in accordance with the United Nations Convention on the Law of the Sea, whereas the third energy package applies to pipelines within EU territory. In the case of Nord Stream 2, the package would apply to adjoining, land-based pipelines in the EU. Moreover, the EU energy market has been built around the principles of liberalisation and competition, and political attempts to block new projects run counter to this logic.

Following the Council’s response, the Commission proposed amending the third energy package to create a legal rationale for requesting the negotiating mandate. To become law, the amendment of the Gas Directive required the support of a qualified majority of Member States (that is, 55% of Member States voting in favour, and representing at least 65% of the total EU population). In 2017 and 2018, this seemed highly unlikely, as the opposition of Germany, France and several other smaller EU members ensured the existence of a blocking minority. A turning point occurred in February 2019, when France suddenly voiced its support for amending the Gas Directive. The French stance urged Germany to seek bilateral negotiations with France to achieve a compromise. Eventually, a common text was agreed that made the Gas Directive applicable to EU territorial waters but left the Member State where the pipeline first lands in charge of implementation and of authorising exemptions (which, however, have to be agreed on by the European Commission). The Franco-German compromise was then endorsed by EU institutions.35

To complicate matters further, the United States has intervened in the Nord Stream 2 debate through both congressional legislation and President Donald Trump’s fiery rhetoric. Legislation passed by Congress in the summer of 2017 threatened to sanction European companies involved in Nord Stream 2 and in other energy projects with Russian involvement. This led to a diplomatic argument with the German and Austrian governments. Berlin and Vienna argued that the US extraterritorial sanctions were illegal and that ‘Europe’s energy supply network is Europe’s affair, not that of the United States of America’.36 Following negotiations with European diplomatic envoys, the 2017 legislation was softened with the addendum that sanctions would be imposed at the US President’s discretion in coordination with US allies.37 In 2018, however, Congress passed a new draft law that could make the sanctions mandatory without requiring the approval of the US President or other coordination. Opponents of Nord Stream 2 see it as the last tool for attempting to stop the project. Conversely, supporters of the pipeline see the proposed extraterritorial sanctions as an illegal attempt to interfere in EU energy policy and promote US lng exports as an alternative, regardless of their potentially higher cost for the EU and uncertainty about available volumes.

Despite the risk of US sanctions, construction of the Nord Stream 2 pipelines started during the summer of 2018 and proceeded in the following months.38 However, in December 2019 Congress approved sanctions against Nord Stream 2, leading the Swiss constructor Allseas to suspend the laying of the pipeline in the Baltic Sea, when nearly all the work had been completed. US sanctions will probably fall short of the objective of cancelling the project but will delay it by several months because Gazprom was forced to find another vessel with the capability of laying pipes in deep sea waters.39 This means that Gazprom will have to continue to export large volumes of gas via Ukraine in the early 2020s.

6 Ukraine’s Role in EU-Russia Energy Trade

Many EU politicians consider the preservation of Ukraine’s gas transit role as the most politically pressing issue in the light of Gazprom’s new projects. Preserving gas transit through Ukraine would contribute to EU energy security because Russian gas would continue to be channelled to the EU via three pipeline routes (Nord Stream, Belarus-Poland and Ukraine) rather than just two.40 However, due to the ongoing conflict between Moscow and Kiev and the risk of spillovers to the energy sphere, the Ukrainian route appears as the least secure. Hence, the EU’s position seems to be guided primarily by political factors, most notably solidarity with Ukraine. Ukraine has earned $2–3 billion a year from transit revenues, which are important to its economy. The construction of alternative pipelines could deprive Ukraine of this income, weakening it both financially and strategically vis-à-vis Russia. The main question is whether Ukraine will be able to preserve its transit role in coming years.

Ukrainian concerns increased in February 2018 when Gazprom stated that it would start a termination procedure for its supply and transit contracts with Ukraine.41 Gazprom’s statement was made in response to the outcome of a long-standing arbitration process concerning contracts with Ukraine’s state company, Naftogaz. After 2014, Gazprom and Naftogaz had filed claims against each other at the Arbitration Institute of the Stockholm Chamber of Commerce. The claims concerned the implementation of supply and transit contracts. A series of pronouncements left Gazprom with a net debt of $2.56 billion – a considerable sum but only a fraction of what the two companies were claiming from each other.42 Gazprom stated that it wished to terminate the current gas transit agreement with Ukraine in this context, before arguing that it would use all legal means to challenge the outcome of the arbitration.43

On closer inspection, Gazprom’s statement appeared unlikely to have any concrete effects. As indicated above, in 2017 the company exported over 93 bcm of gas via Ukraine; similar volumes transited Ukraine in 2018 and 2019. To maintain these export volumes, Gazprom cannot manage without Ukrainian transit pipelines at present. In fact, this will hold true even if both Nord Stream 2 and TurkStream are built. Certainly, when these projects become operational, gas volumes via Ukraine will diminish markedly but they will not disappear. In December 2019, Gazprom and Naftogaz signed a five-year transit contract, in which the Russian company agreed to ship a minimum of 65 bcm of gas in 2020 and a minimum of 40 bcm/year in 2021–2024, including a ship-or-pay clause (meaning that Gazprom would have to pay for the minimum contracted volumes even if it ships less). As part of these negotiations, Gazprom also agreed to pay the net debt resulting from the Stockholm arbitration.44

Hence, gas transit via Ukraine will continue in the 2020s but with smaller volumes than in the 2000s and 2010s. While transit volumes will diminish, it is also important to note that Ukraine is no longer as exposed to disruptions in gas supplies from Russia as it was in the past. Ukraine’s gas demand fell from around 65 bcm in 2011 to approximately 35 bcm in 2017. Most of the current demand is covered by domestic gas production and imports from the EU (even though the latter include reverse flows of Russian gas).45 This means that while Ukraine will probably lose most of its leverage as a key transit country, Russia has also lost much of its leverage over Ukraine’s energy security.

From the perspective of the EU’s energy security and resilience, Ukrainian gas transit is a more complex and multifaceted matter than may appear from mainstream political debates. On the one hand, the EU feels obliged to show solidarity with Ukraine, which is also a fellow member of the Energy Community, an international organisation that aims at extending the EU’s energy acquis.46 As argued, maintaining Ukrainian transit will contribute to the diversification of import routes. On the other hand, several technical factors should discourage excessive political interference in the matter. The Ukrainian pipeline network is old, with large parts of it dating back to Soviet times, and requires extensive investments. The new Russian gas fields are located further north than the West Siberian fields that have traditionally supplied gas to Europe and where production is now declining. These factors make the Nord Stream route to the large Northwestern European markets shorter, and thus more competitive in terms of transportation costs.47 Furthermore, for the EU, maintaining reliance on Ukrainian transit means remaining hostage to the heated Russian-Ukrainian relationship for its gas supplies, which is hardly a sensible strategy. The EU could show solidarity with Ukraine and support it financially in different ways, without putting its own energy supplies at risk.

7 Conclusion

Currently, the EU has a dual approach to energy relations with Russia, which responds to both a political and a commercial logic. This dual approach is reflected in the five principles currently guiding the EU’s policy towards Russia. The third principle identifies energy security as an area where the Union should strengthen its internal resilience, mostly due to political concerns related to excessive dependence on Russian energy supplies. This is particularly relevant to gas supplies, as gas is arguably the most sensitive energy source for the EU due to transportation complexities and high import needs. The EU has made good progress in this regard. It has developed both legislation (such as the third energy package) and a policy framework, the Energy Union, which are functional to strengthening its internal resilience. Most significantly, the EU has strengthened interconnections between national energy markets, and supported the construction of new infrastructure in Member States that were dependent on a single supplier.

As Russia is an important supplier of energy at relatively low cost, Brussels also faced the daunting task of managing the energy relationship with Moscow amidst an unprecedented political crisis and reciprocal sanctions. Also in this respect, the EU has been remarkably successful. Following a commercial logic, and according to the wishes of the Member States that value energy trade with Russia (such as Germany, Italy and France), the EU has largely preserved the energy relationship with Moscow. Hence, energy can now be seen as an area of selective engagement with Russia, in accordance with the fourth principle. The European Commission successfully negotiated transit and supply agreements between Russia and Ukraine in 2014–2015. Despite the political crisis, EU-Russia energy trade was maintained and even reached new record volumes in 2017 and 2018. At the same time, the European Commission managed to settle an antitrust dispute with Gazprom through negotiations, thereby enforcing EU rules for commercial operations in the internal market. The fact that Gazprom has an interest in preserving its lucrative exports to the EU, and that it was put under pressure by other potential suppliers (such as lng producers), contributed to the EU’s cause.

The main outstanding issue regarding EU-Russia energy relations concerns the routes through which Russian gas will be exported to the EU in the future, particularly the fate of Ukrainian transit pipelines. Arguably, this is an issue that relates more to the EU’s political stance than to its resilience or energy security. The EU has supported Ukraine politically and financially since Russia’s annexation of Crimea in 2014, and preserving imports via Ukraine would be consistent with the strategy adopted thus far. Ukrainian transit pipelines constitute an important, and currently indispensable, corridor for EU gas imports from Russia. However, they are in need of renovation and their commercial use is exposed to political crises between Kiev and Moscow. The completion of Nord Stream 2 and Turkish Stream, which are potentially more efficient and less exposed to political controversies, could make them largely (but not completely) redundant within a few years. For the EU, the best long-term strategy appears to be allowing the development of new, privately funded and commercially viable routes, while simultaneously ensuring that Ukraine’s energy security is also guaranteed.

1

See Remarks by High Representative/Vice-President Federica Mogherini at the press conference following the Foreign Affairs Council, 14 March 2016, available at: <https://eeas.europa.eu/headquarters/headquarters-homepage/5490_en> (accessed 15 January 2019).

2

Ibid.

3

European Commission, ‘European Energy Security Strategy’, COM (2014) 330 final, 28 May 2014; European Commission; ‘A Framework Strategy for a Resilient Energy Union with a Forward-looking Climate Change Policy’, COM (2015) 80 final, 25 February 2015.

4

J. Henderson and J. Sharples, ‘Gazprom in Europe – Two “Anni Mirabiles”, but Can It continue?’ (Oxford Institute for Energy Studies March 2018), available at: <https://www.oxfordenergy.org/publications/gazprom-europe-two-anni-mirabiles-can-continue/> (accessed 20 January 2020).

5

M. Siddi, ‘The Role of Power in EU-Russia Energy Relations: The Interplay between Markets and Geopolitics’, Europe-Asia Studies 70 (10), 2018, 1560.

6

For an overview of the complexities of EU energy policy, see S. Schubert, J. Pollak and M. Kreutler, Energy Policy of the European Union (Palgrave 2016), 127–147.

7

Eurostat, ‘Main Origin of Primary Energy Imports, EU-28’, 9 August 2018, available at: <https://ec.europa.eu/eurostat/statistics-explained/index.php?title=File:Main_origin_of_primary_energy_imports,_EU-28,_2006-2016_(%25_of_extra_EU-28_imports).png&oldid=398029> (accessed 15 January 2019).

8

See S. Pirani, J. Stern and K. Yafimava, ‘The Russo-Ukrainian Gas Dispute of January 2009: A Comprehensive Assessment’ (Oxford Institute for Energy Studies 2008), available at: <https://www.oxfordenergy.org/publications/the-russo-ukrainian-gas-dispute-of-january-2009-a-comprehensive-assessment> (accessed 20 January 2020).

9

M. Siddi, ‘The EU’s Botched Geopolitical Approach to External Energy Policy: The Case of the Southern Gas Corridor’, Geopolitics 24 (1), 2019, 124–144.

10

European Commission, ‘A Framework Strategy for a Resilient Energy Union’, COM(2015) 80 final. For a critical analysis, see M. Siddi, ‘The EU’s Energy Union: A Sustainable Path to Energy Security?’, The International Spectator 51 (1), 2016, 131–144.

11

A. Stulberg, ‘Out of Gas? Russia, Ukraine, Europe, and the Changing Geopolitics of Natural Gas’, Problems of Post-Communism 62 (2), 2015, 112–130.

12

P. Högselius, Red Gas (Palgrave 2013), 197–216.

13

J. Sharples, ‘The Shifting Geopolitics of Russia’s Natural Gas Exports and Their Impact on EU-Russia Gas Relations’, Geopolitics 21 (4), 2016, 885–886.

14

M. Siddi, ‘Identities and Vulnerabilities: The Ukraine Crisis and the Securitisation of the EU-Russia Gas Trade’, in: K. Szulecki (ed.), Energy Security in Europe: Divergent Perceptions and Policy Challenges (Palgrave Macmillan 2018), 265–266.

15

J. Stern and K. Yafimava, ‘The EU Competition Investigation of Gazprom’s Sales in Central and Eastern Europe: A Detailed Analysis of the Commitments and the Way Forward’, oies Paper No. NG 121 (Oxford Institute for Energy Studies 2017), 30.

16

M. Siddi, ‘EU-Russia Gas Trade: New Projects, New Disputes?’, Briefing Paper No. 183 (Finnish Institute of International Affairs October 2015).

17

See M. Russell, ‘The EU’s Russia Policy: Five Guiding Principles’, European Parliament, February 2018, 5, available at: <http://www.europarl.europa.eu/RegData/etudes/BRIE/2018/614698/EPRS_BRI(2018)614698_EN.pdf> (accessed 15 January 2019).

18

This section and the following ones in this chapter are based on and develop further the analysis in M. Siddi, ‘Russia’s Evolving Gas Relationship with the European Union: Trade Surges despite Political Crises’, Briefing Paper No. 246 (Finnish Institute of International Affairs September 2018).

19

Gazprom Export, Delivery Statistics 2018, available at: <http://www.gazpromexport.ru/en/statistics/> (accessed 15 January 2019); ‘Gazprom Expects 2018 Natural Gas Exports to Europe, Turkey to Total 201 bcm: CEO’, Platts, 28 December 2018, available at: <https://www.spglobal.com/platts/en/market-insights/latest-news/natural-gas/122818-gazprom-expects-2018-natural-gas-exports-to-europe-turkey-to-total-201-bcm-ceo> (accessed 15 January 2019).

20

A. Honoré, ‘Natural Gas Demand in Europe in 2017 and Short Term Expectations’, Oxford Energy Insight, No. 35 (Oxford Institute for Energy Studies, April 2018), 1.

21

Henderson and Sharples, ‘Gazprom in Europe’, op. cit. note4, 3–5.

22

‘Ukraine sees 13.7% rise in gas transit in 2017’, Interfax Ukraine, 2 January 2018, available at: <https://en.interfax.com.ua/news/economic/474366.html> (accessed 15 January 2019).

23

For a detailed discussion, see Henderson and Sharples, ‘Gazprom in Europe’, op. cit. note 4, 1–16.

24

See Siddi, ‘The Role of Power in EU–Russia Energy Relations’, op. cit. note 5, 1556–1157.

25

See M. Siddi, ‘The Antitrust Dispute between the European Commission and Gazprom: Towards an Amicable Deal’, fiia Comment, 25 April 2017.

26

F. Chee and A. de Carbonnel, ‘EU Ends Antitrust Case against Gazprom without Fines’, Reuters, 24 May 2018, available at: <https://www.reuters.com/article/us-eu-gazprom-antitrust/eu-ends-antitrust-case-against-gazprom-without-fines-idUSKCN1IP1IV> (accessed 10 September 2020).

27

See ‘European Union and its Member States – Certain Measures Relating to the Energy Sector’, World Trade Organization, 21 November 2018, available at: <https://www.wto.org/english/tratop_e/dispu_e/cases_e/ds476_e.htm> (accessed 15 January 2019); R. Griffin, ‘WTO Court Rules in Favor of Key Principles of EU Third Energy Package’, Platts, 10 August 2018, available at: <https://www.spglobal.com/platts/en/market-insights/latest-news/natural-gas/081018-wto-court-rules-in-favor-of-key-principles-of-eu-third-energy-package> (accessed 10 September 2020).

28

M. Siddi, ‘Identities and Vulnerabilities’, op. cit. note14, 256–263.

29

T. Boersma, ‘The End of the Russian Energy Weapon (that Arguably Was Never There)’, Brookings Institution, 5 March 2015, available at: <https://www.brookings.edu/blog/order-from-chaos/2015/03/05/the-end-of-the-russian-energy-weapon-that-arguably-was-never-there/> (accessed 15 January 2019).

30

M. Siddi, ‘The Arctic Route for Russian LNG Opens’, WE – World Energy, 9 May 2018, available at: <https://www.aboutenergy.com/en_IT/topics/arctic-route-for-russian-lng-opens.shtml> (accessed 15 January 2019).

31

Henderson and Sharples, ‘Gazprom in Europe’, op. cit. note 4, 23.

32

For a full analysis of the project, see A. Goldthau, ‘Assessing Nord Stream 2: Regulation, Geopolitics and Energy Security in the EU, Central Eastern Europe and the UK’, European Centre for Climate, Energy and Resource Security (eucers) Strategy Paper No. 10 (King’s College London, 2016); K. Lang and K. Westphal, ‘Nord Stream 2 – A Political and Economic Contextualisation’, swp Research Paper (Stiftung Wissenschaft und Politik, March 2017).

33

For a discussion of opponents’ arguments, see Lang and Westphal, ‘Nord Stream 2’, op. cit. note 32, 28–34; A. Loskot-Strachota, ‘The Case against Nord Stream 2’, Energy Post, 23 November 2015.

34

For an in-depth discussion, see K. Yafimava, ‘The Council Legal Service’s Assessment of the European Commission’s Negotiating Mandate and What It Means for Nord Stream 2’, Energy Insight 19 (Oxford Institute for Energy Studies October 2017).

35

A. Gurzu, ‘Nord Stream 2: Who Fared Best’, Politico, 13 February 2019, available at: <https://www.politico.eu/article/the-winners-and-losers/> (accessed 20 January 2019).

36

German Foreign Office, Press Release 15 June 2017, available at: <https://www.auswaertiges-amt.de/en/newsroom/news/170615-kern-russland/290666> (accessed 15 January 2019).

37

See ‘Countering America’s Adversaries through Sanctions Act’, 2017, https://www.treasury.gov/resource-center/sanctions/Programs/Pages/caatsa.aspx (accessed 15 January 2019).

38

O. Astakhova and V. Eckert, ‘Nord Stream 2 Pipeline on Track despite Sanction Risk’, Reuters, 31 August 2018, available at: <https://br.reuters.com/article/russia-gazprom-nordstream-idAFL8N1VM1W9> (accessed 10 September 2020).

39

Platts, ‘Russia Expects to Delay Nord Stream 2 Launch to mid-2020: Report’, 21 November 2019, available at: https://www.spglobal.com/platts/en/market-insights/latest-news/natural -gas/112119-russia-expects-to-delay-nord-stream-2-launch-to-mid-2020-report (accessed 20 February 2020).

40

When finalised, Turkish Stream will constitute an additional southern route.

41

V. Soldatkin and N. Zinets, ‘Gazprom Seeks to halt Ukraine Gas Contracts as Dispute Escalates’, Reuters, 2 March 2018, <https://www.reuters.com/article/us-russia-ukraine-gas/gazprom-seeks-to-halt-ukraine-gas-contracts-as-dispute-escalates-idUSKCN1GE2DW> (accessed 15 January 2019).

42

Gazprom claimed $56 billion from Naftogaz for the alleged breach of take-or pay contracts, whereas Naftogaz demanded $16 billion for Gazprom’s failure to deliver agreed transit volumes of gas.

43

See Marc-Antoine Eyl_Mazzega, ‘The Gazprom-Naftogaz Stockholm Arbitration Awards: Time for Settlements and Responsible Behaviour’ (ifri, Paris 13 March 2018); S. Pirani, ‘Russian Gas Transit through Ukraine after 2019: The Options’, Oxford Energy Insight, No. 41 (Oxford Institute for Energy Studies November 2018), 6.

44

A. Isachenkov, ‘Russia, Ukraine Finalize Deals for Gas Transit to Europe’, ap, 31 December 2019, available at: <https://apnews.com/4615057928c343afb421a24cdd0bedf1> (accessed 20 February 2020).

45

See E. Mazneva, ‘Russian Gas Return to Ukraine to Cost EU Traders $1 Billion’, Bloomberg, 10 January 2018.

46

Schubert, Pollak and Kreutler, Energy Policy of the European Union, op. cit. note6, 220–222.

47

Pirani,‘Russian Gas Transit’, op. cit. note 43, 8–16.

Principled Pragmatism in Practice

The EU’s Policy towards Russia after Crimea

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