Gas pressure

Here’s an effective way to sanction Russia, and why it hasn’t happened so far

July 23, 2014
Obsession
Energy Shocks
July 23, 2014

Western officials hoping to alter the behavior of Russian president Vladimir Putin are examining a lot of targets for sanctions, but analysts say one entity seems to be off the table for now—Gazprom. The natural gas behemoth spearheads Moscow’s economic and foreign policy abroad, but Europe is so reliant on its supplies that any strike against the company could harm the rest of the continent as much or more (video) than Russia.

Yet Gazprom is under siege on a number of other fronts, including at home, where private competitors are attacking its privileges and Russian president Vladimir Putin himself is moving to eliminate its monopoly on lucrative gas exports to China. Some analysts say the West, too, ought to reconsider its hands-off approach to the company.

Through Russia’s cycles of chaos and crisis since the Soviet breakup in 1991, Gazprom has been the country’s citadel of reliability, providing both steady export income and foreign policy muscle. As the chart below shows, gas exports to Europe made up 14% of Russia’s export income last year.

Russia obtained 68% of its export income from oil and gas in 2013.

When European countries have gone against Russia’s political wishes, they have been punished with, among other penalties, high gas prices. This leverage is possible because Europe depends on Gazprom for some 30% of its natural gas supplies. The three Baltic countries receive 100% of their gas from Gazprom.

Some European countries obtain 100% of their natural gas from Russia.

But Gazprom’s period of unchallenged glory appears to be past. Part of this is because, as US shale gas overturns the global energy equilibrium, the company has outlived its usefulness as a sure-fire foreign policy instrument. Lithuania, for example, refusing to buckle under to a perceived local market grab by Gazprom, has challenged the company on the grounds of anti-competitive behavior. Last month, the row climaxed with a local court issuing a $48-million fine against Gazprom; the Russian company responded by opting to sell its shares in two local natural gas distribution companies. Meanwhile, Gazprom has been forced in a series of cases (paywall) to lower its gas prices to European customers, a climbdown that would have been improbable at best before the US shale revolution.

The company in particular has lost Putin’s unconditional loyalty—he appears to be unhappy that, while players around the world have captured the lucrative new market for the export of liquefied natural gas (LNG), Gazprom has been slow to move beyond its piped supplies. At the end of last year, Putin acted to abolish Gazprom’s export monopoly by allowing private companies to ship LNG out of the country. Two companies—-Novatek and Rosneft—have responded with aggressive plans for LNG facilities.

Indeed, with much to gain from Gazprom’s pain, these two companies—Rosneft, a giant oil company run by powerful Putin intimate Igor Sechin, and Novatek, a private gas company controlled by another Putin ally, Gennady Timchenko—have encouraged Putin’s sour view of Gazprom’s competence.

In a scoop this week, the Russian newspaper Vedomosti reported that Putin has issued a recommendation that the government further weaken Gazprom’s hold on the market by opening up existing and planned natural gas pipelines currently exclusive to Gazprom. Those pipelines include the planned Power of Siberia pipeline, an estimated $55-billion line that will carry some 38 billion cubic meters of gas a year to China; and the trans-Sakhalin pipeline, which carries gas from Russia’s Far East.

In the case of the trans-Sakhalin line, Putin has suggested outright state appropriation, with compensation to Shell and Gazprom, which built it; the beneficiaries of such a move would be Rosneft and ExxonMobil, which want to use the line for their Sakhalin I natural gas field. To the degree that this results in Sakhalin I exports, Putin’s intercession would resolve a long and vexing experience for ExxonMobil, which built Sakhalin I on the presumption that it could export the gas, but thus far has been blocked from doing so.

A few hours after the news reports of Putin’s move, a Kremlin official told reporters that Gazprom’s hold on the piped gas market is “unshakeable.” And Gazprom’s cash cow—the European market—appears to be safe from competition. But the picture is of a former monopoly suddenly having to compete for its place in the Russian economy, rather than taking it for granted.

Will the West remove its white gloves?

Looping back, the devisers of US sanctions have punished both Rosneft and Novatek, but thus far have not touched Gazprom. (European energy commissioner Guenther Oettinger said today that the European Union might follow suit by targeting sanctions on equipment necessary for Russia’s oil and gas exploration in the Arctic.)

Some analysts think that Putin is awaiting a sign of greater Western toughness in reaction to the crash of Malaysia Airlines 17 before deciding what he does next in Ukraine. “If Europe is only going to wag its finger—if he can get away with this kind of crisis—he will be encouraged to destabilize Ukraine even more,” Itzhak Brudny, a professor at the Hebrew University of Jerusalem, told Quartz. Targeting Gazprom—or even hinting that such a move is on the table—could be the best way to display that toughness.

Mark Dubowitz, of the Foundation for Defense of Democracies, who is an architect of the US sanctions on Iran, said carefully scripted, escalating sanctions against companies connected to Gazprom could build pressure on Putin. “You do an analysis of every individual, affiliate, subsidiary, financial institution, key supplier and any other related entities and you start sanctioning every one of them as you move closer and closer in on Gazprom as the target,” he wrote in an email. “Another variation of the ‘kill the chickens to scare the monkey’ theory of sanctions.”

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