TURKISH STREAM: SCENARIOS OF BYPASSING UKRAINE AND BARRIERS OF EUROPEAN COMMISSION VYGON Consulting - June 2015 June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission AUTHORS Grigory VYGON Managing Director, Ph.D. Econ [email protected] Vitaly ERMAKOV Research Director, Ph.D. Phil [email protected] Maria BELOVA Senior Analyst, Ph.D. Econ [email protected] Ekaterina KOLBIKOVA Junior Analyst [email protected] 1 VYGON Consulting June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission CONTENT KEY CONCLUSIONS 3 INTRODUCTION 6 SUPPLIER VIEW: RUSSIAN STRATEGY 8 CHALLENGES TO Russia’s GAS EXPORT STRATEGY 8 RELATIONSHIPS WITH UKRAINE 10 STRUGGLING WITH THE SOUTHERN GAS CORRIDOR 14 CONSUMER VIEW: STRATEGY FOR GAS SUPPLY SOURCE DIVERSIFICATION 16 EU ENERGY LEGISLATION: TRANSITION PERIOD RISKS 16 COMPETITON INCENTIVES 19 Ukraine- DepenDence For eUropean coUntries 23 TRANSIT COUNTRY OUTlook: Turkey’s STRATEGY 27 GAS BALANCE: FROM OVERSUPPLY TO GAS DEFICIT 27 Turkey’s TransiT ROLE: BRIDGE OR ROADBLOCK 30 FUTURE CONFIGURATION OF TURKISH STREAM 34 OPTIONS TO IMPLEMENT A EUROPEAN EXTENSION OF THE PIPELINE 34 solUtions For the 2020 problem 40 2 VYGON Consulting June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission KEY CONCLUSIONS The Turkish Stream gas pipeline project shall modify the Russian gas export strategy in response to the European Commission (EC) discriminatory treatment of Russian gas exports to Europe. Deliveries of Russian gas to the Turkish/Greek border instead of gas transit via Ukraine will eliminate potential blackmailing of Russia. Gazprom has not just gradually been moving towards reducing the Ukrainian transit but even waiving its equity interest, and hence, building up a gas transportation system in the European Union. In fact, Russia will simultaneously solve three strategic objectives: minimize transit risks, create new market niches and block competing supplies. Following its official gas supply diversification course, the European Commission strongly opposes the Turkish Stream project. Since there is no viable alternative to Russian pipeline gas in the medium term, the EC may have to carry Russian gas from the Turkish/Greek border to end-user countries. Notably, the current EU legislation does not stimulate investment in the construction of internal gas pipeline. In 2014, more than half out of 24 European countries (including Turkey) purchasing natural gas from Gazprom Group received it via Ukraine. The most “Ukraine-dependent” countries (the share of Russian gas imports via Ukraine is 100% of total imports) are Romania, Bulgaria, Greece, Macedonia, Serbia, Bosnia and Herzegovina, Slovenia and Italy. The situation with Italy is the most controversial, since the security of Russian gas supply may become a critical issue for Italy by the end of the decade. It is therefore in the interest of Italy to seek common solutions with Russia of the “2020 problem” – either by promoting the construction of the European extension of Turkish Stream or motivating Gazprom to sign a new gas transit agreement with Ukraine. If the Turkish Stream is implemented, the presence of Turkey as another transit country might carry some imminent risks for Russia: • Turkey is a candidate country for EU membership and NATO member state, which casts doubt on its independence and, therefore, reliability as a potential transit country for Russian gas. • Complex experience in implementing infrastructure projects, which did not fully meet the Turkish interests was accumulated. The Blue Stream is a striking example of how Turkey violated the agreements reached earlier. • Turkey tends to seek “package arrangements” when 3 VYGON Consulting June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission negotiating on the specific energy projects. if there is no compromise reached on any of the currently unsolved issues, the implementation of the Turkish Stream can be significantly hindered. Bringing the Turkish Stream pipeline to the European Union border means that Gazprom accepts the European Union’s rules of the game thus practically eliminating the South Stream inherent risks off the new project: • European legislation requirements: Russia had signed intergovernmental agreements with the South Stream member countries on project implementation and establishment of joint ventures; while this was in contradiction with the Third Energy Package rules (prohibition of the exporter’s right to own internal gas pipelines). • “Europhobia” of Russian gas: let us remind that one of the reasons for the Southern Gas Corridor emergence (SGC) was an intention to diversify not only destinations, but also sources of gas supply, and thus the so-called anti-Russian projects were adopted under this initiative. If Russian gas reaches the EU border and then proceeds to final consumers via new Southern Corridor pipelines, for example, TAP, ITGI or Nabucco-West, this may somewhat reduce the tension. Developments around the Turkish Stream, particularly, the joint declaration signed by the Ministers of Foreign Affairs of Serbia, Greece, Macedonia, Hungary and Turkey on supporting the project (7 April 2015) and agreement on the construction of gas transportation facilities in Greece by the Russian-European Consortium (21 April 2015), to our opinion, indicates that the “Stream” would not end in a gas hub on the Turkish/Greek border. Supplies of Russian gas to Europe via Turkey will be carried out via the Southern Gas Corridor pipelines (this, however, undermines the very idea of the diversification of the gas supply sources) or via any new gas pipeline to be built in Europe in full compliance with the EU domestic legislation. The main goal of Turkish Stream project is to minimize the Russian gas transit via Ukraine by 2020. Therefore, the time factor will be crucial for Gazprom in solving the problem. Another goal is maximizing capacity utilization of Turkish Stream lines and delivering gas to final consumers (transfer of ownership points under the existing contracts). 4 VYGON Consulting June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission We assume the following frontier scenarios by 2020: • pessimistic scenario suggests laying just the first line of the Turkish Stream, loading the OPAL pipeline (onshore part of Nord Stream) and concluding a new transit agreement with Ukraine to transport about 28-36 bcm of natural gas per year. This scenario maintains high transit risks and lower economic efficiency for the turkish stream. • Under the optimistic scenario even with the construction of three lines of the Turkish Stream, ulitization of Trans-Balkan pipeline in reverse mode, reanimating some of the Southern Gas Corridor projects such as ITGI and Nabucco-West, and OPAL loading, Gazprom fails to completely solve the problem of gas delivery to its final consumers by 2020. Yet, around 10 bcm of gas cannot be delivered to Austria, Slovenia, Serbia and Bosnia within the new infrastructure and will have to be supplied via Ukraine. however, we consider that the best option is available after 2020 is the “Optimum -2024” scenario which comprises the Optimistic scenario options and moreover includes the TAP partial loading as well as supplies via the Greece-Austria gas pipeline. This option envisages the construction of four lines of the Turkish stream project by 2024 and provides spare capacity reserves in case Gazprom would eventually be forced to yield part of the OPAL capacity to another supplier. Within a year or two the feasibility of our Optimistic Scenario-2020 will be defined and by 2019, Gazprom will come up with a clear understanding of the timeline and quantities of the next transit contract to be signed with Ukraine. According to our estimates, this agreement can be concluded for a period of up to 4 years, while the transit volume would be greatly reduced, with Russia unlikely to agree to “ship-or-pay” clauses. 5 VYGON Consulting June 2015 Turkish Stream: Scenarios of Bypassing Ukraine and Barriers of European Commission INTRODUCTION Announcing the Turkish Stream gas pipeline project in December 2014, Gazprom declared that it would sell gas on the trading platform on the Turkey/EU border. The goal of Europeans is to create the needed transport infrastructure in the European Union in order to receive the gas volumes. Purchases of Russian gas at a hub instead of a fixed delivery point, the reverse of existing gas pipelines, investments of the European system operator into construction of new gas pipelines via supply contracts are all the principles corresponding to the ideology and rules of the 3-rd Energy Package. Russia is sort of telling European partners: we sell gas in Turkey, the rest is up to you. Gazprom’s demonstrative compliance with the 3-rd Energy Package in the case of the Turkish Stream can be regarded as reductio ad absurdum, proving the inconsistency of the European regulatory system by demonstrating absurd controversies arising from their application. Paradoxically, the rules of the 3-rd Energy Package have never been fully applied in the construction of the new gas infrastructure in the European Union. In order to attract investors, the European Commission was forced to make exemptions from mandatory third- party access (TPA) to transmission capacity. A good example is the Trans-Adriatic Pipeline (TAP) with a capacity of 10 billion cubic meters a year, which