EU-Russia Energy Relations: What Chance for Solutions? A Focus on the Natural Gas Sector Dimo Böhme Potsdam Economic Studies | 3 Potsdam Economic Studies Potsdam Economic Studies | 3 Dimo Böhme EU-Russia Energy Relations: What Chance for Solutions? A Focus on the Natural Gas Sector Potsdam University Press Bibliographic information published by the Deutsche Nationalbibliothek The Deutsche Nationalbibliothek lists this publication in the Deutsche Nationalbibliografie; detailed bibliographic data are available in the Internet at http://dnb.de. Potsdam University Press 2014 http://verlag.ub.uni-potsdam.de/ Am Neuen Palais 10, 14469 Potsdam Tel.:+49 (0)331 977 2533/ Fax: 2292 E-Mail: [email protected] The monograph series Potsdam Economic Studies is edited by Prof. Dr. Malcolm Dunn. Withal Dissertation Thesis, University of Potsdam, 2010 ISSN (print) 2196-8691 ISSN (online) 2196-9302 The document is protected by copyright. Layout and typography: Thomas Graf Print: docupoint GmbH Magdeburg ISBN 978-3-86956-278-0 Simultaneously published online at the Institutional Repository of the University of Potsdam: URL http://pub.ub.uni-potsdam.de/volltexte/2014/6302/ URN um:nbn:de:kobv:517-opus-63022 http://nbn-resolving.de/urn:nbn:de:kobv:517-opus-63022 To My Family Abstract Public debate about energy relations between the EU and Russia is distorted. These distortions present considerable obstacles to the development of true partnership. At the core of the conflict is a struggle for resource rents between energy producing, energy consuming and transit countries. Supposed second- ary aspects, however, are also of great importance. They comprise of geopolitics, market access, economic development and state sovereignty. The European Un- ion, having engaged in energy market liberalisation, faces a widening gap be- tween declining domestic resources and continuously growing energy demand. Diverse interests inside the EU prevent the definition of a coherent and respect- ed energy policy. Russia, for its part, is no longer willing to subsidise its neigh- bouring economies by cheap energy exports. The Russian government engages in assertive policies pursuing Russian interests. In so far, it opts for a different globalisation approach, refusing the role of mere energy exporter. In view of the intensifying struggle for global resources, Russia, with its large energy poten- tial, appears to be a very favourable option for European energy supplies, if not the best one. However, several outcomes of the strategic game between the two partners can be imagined. Engaging in non-cooperative strategies will in the end leave all stakeholders worse-off. The European Union should therefore con- centrate on securing its partnership with Russia instead of damaging it. Stable cooperation would need the acceptance that the partner may pursue his own goals, which might be different from one’s own interests. The question is, how can a sustainable compromise be found? This thesis finds that a mix of contin- ued dialogue, a tit for tat approach bolstered by an international institutional framework and increased integration efforts appears as a preferable solution. vii Contents 1 Introduction and Motivation 1 1.1 Purpose of the Study. 1 1.2 Methodology and Course of the Investigation . 2 1.3 Motivation: The public debate about European-Russian energy relations. 6 1.4 Conclusion. 15 2 Setting the Scene 17 2.1 Conceptual Framework: A changing global energy policy scheme . 17 2.1.1 Energy Policy in the 21st Century: A new degree of internationalisation. 18 2.1.2 General Energy Policy Aims . 21 2.1.3 Concepts of Energy Security and Energy Sovereignty . 23 2.1.4 Summary . 32 2.2 Natural Gas: A strategic fuel for the coming decades . 34 2.2.1 The European Gas Sector: A picture of growing import dependency. 36 2.2.2 The Russian Gas Industry: Vast resources, large distances and state control . 42 2.2.3 Summary . 57 3 Manifest Conflicts and Corresponding (Re)actions 59 3.1 Highly Conflictual: Gas pricing . 59 3.1.1 European Price Formation and Long-Term Contracts . 60 3.1.2 Gas Pricing in Russia. 63 3.1.3 Exports and Pricing for CIS Countries. 70 3.1.4 Summary . 72 ix 3.2 Gas Transit: Price disputes and the threat of supply cuts . 74 3.2.1 What Role for Transit Countries? . 75 3.2.2 The Disputes between Russia and its Western CIS Partners. 83 3.2.3 The Background of the Conflicts and Lessons to Draw . 90 3.2.4 Summary . 92 3.3 Strategic Projects: The political game of export routes and joint ventures . 93 3.3.1 Strategic Objectives of Russia and Gazprom . 94 3.3.2 Transport Route Diversification: Alternatives to the traditional transit system through Ukraine and Belarus. 95 3.3.3 Central Asia. 103 3.3.4 Export Market Diversification: Projects in the Far East and Eastern Siberia. 109 3.3.5 Business Diversification: Gazprom’s downstream activities in Europe. 115 3.3.6 Production in Other Countries . 119 3.3.7 Summary . 120 4 The Background: Interest Guidelines and Policy Priorities 123 4.1 European Energy Policy . 123 4.1.1 E Pluribus Unum? . 124 4.1.2 More Competition: Natural monopolies, unbundling and regulation . 129 4.1.3 Material Supply Security for Europe: Demand side policies 134 4.1.4 European Policy Objectives in the Environmental Sphere. 136 4.1.5 The Energy Partnership with Russia . 139 4.1.6 Summary . 142 4.2 The Economic Situation and Interests of the Russian Federation . 144 4.2.1 The First Transformation Phase. 144 4.2.2 The Boom Phase: Net improvement of social and economic indicators . 147 4.2.3 Persisting Problems of a One-Sided Economy . 155 4.2.4 Summary . 161 4.3 Russian Energy Policy Objectives . 164 x 4.3.1 A Sector of Unrivalled Importance . 165 4.3.2 Russian Energy Policy as Part of an Assertive State Economic Policy . 167 4.3.3 The Energy Strategy of the Russian Federation for the Period until 2020/2030. 179 4.3.4 Summary . 193 5 Towards a Solution 197 5.1 Opposed and Shared Interests . 197 5.1.1 European Union and European Companies. 197 5.1.2 Russia and Gazprom. 200 5.2 Four Possible Scenarios for Future EU-Russia Energy Relations: An application of game and cooperation theory . 206 5.2.1 The EU Imposes its Will . 209 5.2.2 Russia Imposes its Will . 209 5.2.3 The Status Quo . 210 5.2.4 The Cooperative Solution: Which strategy performs best? Contributions from cooperation theory . 211 5.3 Criteria for Solutions . 215 5.3.1 Energy Security. 216 5.3.2 Profitability or Economic Viability . 219 5.3.3 Environmental Soundness and Efficiency Aspects . 219 5.3.4 Political Leverage and Cooperation Rent . 220 5.3.5 Summary . 220 5.4 Solution Proposals . 221 5.4.1 A Legal Framework for International Energy Relations . 222 5.4.2 Economic Approaches . 237 5.5 Summary . 258 6 Main Findings and Conclusions 263 Annex 271 Bibliography 277 xi List of Tables Table 1: World reserves of natural gas by region, 2008. .35 Table 2: EU-27 gas imports by origin, 2008 . .39 Table 3: Major export pipelines for Russian natural gas to Europe . .48 Table 4: Gazprom’s exports to Europe and Turkey, 2008. .55 Table 5: Gazprom’s exports to CIS/Baltic countries, 2008 . .55 Table 6: Gazprom’s purchases of gas from Central Asia . 105 Table 7: Technical specificities of Nord Stream, South Stream and Nabucco, 2009 . 109 Table 8: LNG projects in Russia, 2008 . 115 Table 9: Selected Gazprom subsidiaries and joint ventures in Europe, 2009 . 117 Table 10: Selected macroeconomic indicators of the Russian Federation, 1992 – 1999 . 147 Table 11: Selected economic indicators of the Russian Federation, 2003 – 2008 . 154 Table 12: Possible threats to Russia’s export security and the EU’s supply security. 202 Table 13: Principal business interests of OAO Gazprom. 205 Table 14: Options for the EU to increase energy (supply) security.. 208 Table 15: Options for Russia to secure energy demand security, exports and revenues. 208 Table 16: The differing interests of the EU, Russia and transit countries. 221 Table 17: Production, consumption, net gas imports and dependencies of EU countries, 2008 . 271 Table 18: Countries with principal natural gas reserves. 272 xiii List of Figures Figure 1: The “strategic ellipse” of energy resources . .20 Figure 2: The context of energy policy making. .22 Figure 3: Gas reserves, production and consumption by region, 2008. .35 Figure 4: EU-27 primary energy consumption mix, 2008 . .37 Figure 5: EU-27 gas production and consumption, 1998 – 2008. .38 Figure 7: EU-27 gas demand and import dependency. .39 Figure 6: EU-27 gas imports by origin, 2008 . .39 Figure 8: Size, import volumes and dependence on Russia for different EU gas markets. .40 Figure 9: European gas supply system . .41 Figure 10: Russian gas production and consumption, 2008 . .44 Figure 11: Production projections of Gazprom . .45 Figure 12: Shareholder structure of Gazprom . .49 Figure 13: The Russian gas market operation scheme. .53 Figure 14: Development of Gazprom’s exports, 2004 – 2008 . .56 Figure 15: Gazprom’s sales and earnings by region, 2008 . .60 Figure 16: Development of average European gas prices, 2002 – 2008. .62 Figure 17: Development of Russian average domestic gas prices . .68 Figure 18: Gazprom’s average gas prices to FSU and European countries, 2002 – 2008. .71 Figure 19: Import gas prices for Ukraine . .72 Figure 20: Gas prices for FSU countries, 2008 . .72 Figure 21: Ukraine’s gas pipeline grid. .84 Figure 22: The Nord Stream pipeline project. 100 Figure 23: The South Stream and Blue Stream projects.