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A Snapshot of Key Developments in the External Relations of the Russian Gas Sector (Issue 72)

17 MINS READJul 14, 2017 | 21:36 GMT
(NATILIA KOLESNIKOVA/Getty Images)

By Dr. Jack Sharples for European Geopolitical Forum (EGF)

Key points:

  • Gazprom and the EU:

o   Gazprom on the European market: Gazprom and European Commission representatives set for further meetings to discuss Gazprom’s antitrust proposals in light of stakeholder feedback

o   Gazprom in the Baltic region: Finnish government formally proposes opening of Finnish gas market to competition from 2020; Latvijas Gāze gains competitors on the Latvian gas market: Latvian Latvenergo and Lithuanian LDT

  • Nord Stream: European Commission hoping for mandate to negotiate with Russian government over Nord Stream 2
  • Southern Corridor: Gazprom begins offshore construction of Turkish Stream pipeline
  • Ukraine: Arbitration Institute of Stockholm Chamber of Commerce makes first ruling in Gazprom-Naftogaz arbitration case
  • Asia: Gazprom and CNPC open two-way temporary checkpoint on the Russia-China border for construction of Power of Siberia; Gazprom signs several memoranda on potential gas-sector projects in China at the Belt & Road Forum in Beijing
  • Other news: Gazprom reserve additions greater than annual production for 12th year in a row; Gazprom shows year-on-year increase in gas sales on St Petersburg International Mercantile Exchange (SPIMEX)

Gazprom and the EU

Gazprom on the European market

Gazprom and European Commission representatives set for further meetings to discuss Gazprom’s antitrust proposals in light of stakeholder feedback

Over the past several months, we have reported on developments in the negotiations between Gazprom and the European Commission, following the conclusion of the antimonopoly investigation.

In our January 2017 edition, we reported Gazprom’s submission of formal commitments as it sought to settle the case. In the March edition, we noted that that the European Commission appeared to have responded favourably to Gazprom’s proposals, and sent them out for ‘market-testing’, with the aim of generated feedback from stakeholders by a 4th of May deadline.

The April edition of the Gazprom Monitor was held back by a week, to report on this feedback whilst it was ‘fresh news’: In particular, the most strident challenges to the proposed settlement were from Poland, Lithuania, and Estonia, with more muted responses from Slovakia and Bulgaria. It was worth noting that the proposals failed to generate an enthusiastic response from the region as a whole.

On the 29th of May, the EU Competition Commissioner, Margrethe Vestager, met with the Gazprom Deputy CEO, Alexander Medvedev, in Brussels to discuss the stakeholder feedback and the path forward. The meeting was not announced on the EU Directorate-General for Competition website, Commissioner Vestager’s website, or on the Gazprom website. However, the meeting was reported in the mainstream press, with quotes from both sides.

A spokesperson for Vestager stated:

Further contacts with Gazprom are required to address the results of the market test and ensure the Commission's objectives are met.

While Medvedev released a statement:

We had a very productive discussion today with Commissioner Vestager and her team. We have agreed to hold further talks at technical level in the coming weeks.

Despite the clamour from Central European and Baltic region government and energy company representatives for fines to be imposed on Gazprom, in addition to the existing proposals, at this stage it seems highly unlikely that the overall agreement will be abandoned. Rather, the ongoing talks are likely to focus on amendments to Gazprom’s proposed commitments. We will continue to monitor the progress of those talks continue over the coming weeks and months.

Gazprom in the Baltic region

Finnish government formally proposes opening of Finnish gas market to competition from 2020

On the 11th of May, the Finnish government put forward a bill aimed at opening the Finnish wholesale and retail natural gas markets to competition by 2020. According to a press release from Finland’s vertically-integrated gas company, Gasum:

The New Natural Gas Market Act is aimed to enter into force on January 1, 2018. The provisions concerning the unbundling of the transmission system operator and the opening up of the natural gas market to competition are to enter into force on January 1, 2020.

The press release also emphasises that the opening up of the Finnish market requires new physical supplies, with the emphasis being placed on the completion of the proposed Estonia-Finland ‘Baltic Connector’ pipeline (scheduled for 2020):

The Baltic Connector will connect the Finnish and Estonian markets but will not provide a connection to the European gas network and alternative source of gas without further investments in Poland and the Baltics. It is important to ensure that progress will be made in these investments and that the investments will not generate extra costs for Finnish gas users.

The New Natural Gas Market Act will see Finland give up its derogation from key provisions of the Third Gas Directive concerning unbundling and market opening. Finland had been granted these derogations under Article 49 of the Third Gas Directive, according to which Finland is classed as an ‘isolated energy market’.

Currently, the vertically-integrated Finnish energy company, Gasum, holds a monopoly on the import of natural gas into Finland, and the wholesale supply of natural gas to customers inside Finland.

In November 2014, the Finnish state-owned energy holding, Gasunia Oy, purchased a 31 percent stake in Gasum from Fortum and a 20 percent stake from E.ON, raising its shareholding to 75 percent and leaving Gazprom as the only minority shareholder. Gazprom sold its stake to Gasunia Oy in December 2015.

Gasum pulled out of the Baltic Connector project in October 2015 (see below), and abandoned the proposed Finngulf LNG import terminal in the same month. Then, in December 2015, it extended its long-term contract with Gazprom from 2025 to 2031, in exchange for a more favourable pricing formula.

The announcement has substantial implications for Gazprom, as it will challenge Gazprom’s position as a monopoly supplier of natural gas to Finland.

Latvijas Gāze gains competitors on the Latvian gas market: Latvian Latvenergo and Lithuanian LDT

On the 23rd of May, the Lithuanian gas trading company, Lietuvos Dujų Tiekimas (LDT), announced that it had entered the Latvian gas market, signing its first gas supply contracts with customers in Latvia.

LDT is a state-owned company, via the state holding company, Lietuvos Energija. LDT was formed when the previous, vertically-integrated, Lithuanian energy company, Lietuvos Dujos, was unbundled.

The ownership and operation of Lithuania’s pipeline system was spun off to Amber Grid in 2013, while the wholesale gas trading arm of Lietuvos Dujos was separated and renamed LDT the following year.

While LDT carried over Gazprom’s long-term gas supply contract with Lietuvos Dujos, a new state-owned company, Litgas, was created to import LNG via the new Klaipeda LNG import terminal. In 2016, Lietuvos Energija increased its shareholding in Litgas from 66 percent to 100 percent.

In 2016, LDT signed a contract with Statoil to purchase LNG that would be received via the Klaipeda terminal, thus crossing into Litgas’ area of operations. However, the planned merger of LDT and Litgas (due to take place in 2016) was postponed and has not been revived.

On the 26th of May, the Latvian energy company, Latvenergo, announced that it had also begun to trade natural gas on the Latvian gas market, and had signed several gas supply contracts. The announcement is symbolic of the beginning of the liberalisation of Latvian gas market, which was previously dominated by the vertically-integrated monopoly, Latvijas Gāze.

Latvenergo is a power generation company, which accounted for 74 percent of Latvian power generation and satisfied more than half of Latvian electricity demand in 2016. Latvenergo previously purchased its gas supplies from Latvijas Gāze. However, Latvenergo will now have the option to purchase LNG via the Klaipeda terminal, as an alternative to supplies from Latvijas Gāze.

The announcement therefore has implications for Gazprom, whose long-term gas supply contract with Latvijas Gāze is valid until 2030. Indeed, if new gas traders on the Latvian market choose to source their supplies via the Klaipeda terminal, Latvijas Gāze could find that demand for its gas re-sales falls significantly below the volumes stipulated in its wholesale gas supply contract with Gazprom.

Nord Stream

European Commission hoping for mandate to negotiate with Russian government over Nord Stream 2

During May, reports emerged that the European Commission would seek a mandate from the EU member states to negotiate on behalf of the EU with the government of the Russian Federation over the planned Nord Stream 2 pipeline project.

In a written answer to a parliamentary question on the 15th of May, the EU Energy and Climate Commissioner, Miguel Arias Cañete, stated:

The Commission believes that Nord Stream 2, if built, should not operate in a legal void. This is why the Commission will seek a mandate from the Council to negotiate an agreement with Russia that will apply key principles of the European Union energy acquis to Nord Stream 2.

Then, speaking on the sidelines of the GLOBSEC Forum in Bratislava on the 26th of May, the EU Commissioner for Energy Union, Maroš Šefčovič, told Reuters that he was hoping for the support of EU member states for negotiations with the Russian government:

We are finalising the draft mandate, we need a few days (...) and will present it to member states as the best tool for this politically sensitive project, which has polarised attitudes among member states, and represents a legal challenge because of colliding European and Russian law…

I believe we will get backing from all member states because most objections they have raised in negotiations have been taken into account.

Speaking to TASR (the news agency of the Slovak Republic) at the same conference, Mr Šefčovič added:

In order to resolve a collision between two legal systems, the Russian and European, the European Commission has proposed a specific agreement to put this project in line with European laws and to resolve one sensitive aspect, namely preserving the transit of gas through Ukraine after 2019…

It’s not only the countries of Central and Eastern Europe who are interested in this framework, but also the Scandinavian countries, which must release various permits for constructing pipelines in their territorial waters. We have a major interest in seeing the emergence of a solution that will be in line with European principles and laws.

We will monitor this issue during June, in order to analyse the type and scope of mandate that is granted, and the response from the Russian government.

Southern Corridor

Gazprom begins offshore construction of Turkish Stream pipeline

In last month’s edition of the Gazprom Monitor, we reported the meeting between the Gazprom CEO, Alexei Miller, and the Russian President, Vladimir Putin, which took place on the 4th of May. A transcript of that meeting published on the Russian Presidential Administration website shows Miller affirming Gazprom’s readiness to begin laying the offshore section of the pipeline, to which President Putin replied “Go ahead”.

On the 7th of May, Gazprom announced that construction of the offshore section of the Turkish Stream pipeline had indeed commenced. In a press release, Alexei Miller stated:

Today, we started the practical implementation of the TurkStream gas pipeline project: pipe-laying within the offshore section. The project is right on schedule, and by late 2019 our Turkish and European consumers will have a new, reliable source of Russian gas imports.

The Intergovernmental Agreement between Russia and Turkey was ratified by the Turkish parliament in December 2016, and by both houses of the Russian parliament in January 2017. Gazprom signed a contract for the laying of the offshore section of the pipeline with AllSeas in December 2016.

Although the Russia-Turkey IGA states the possibility of constructing two lines (with a capacity of 15.75 bcm per year each), thus far only the construction of the first line appears to have been approved by the Turkish authorities.

Gazprom and Ukraine/Belarus

Arbitration Institute of Stockholm Chamber of Commerce makes first ruling in Gazprom-Naftogaz arbitration case

On the 31st of May, the Arbitration Institute of Stockholm Chamber of Commerce (SCC) announced the first of several rulings in the Gazprom-Naftogaz arbitration case, which aims to resolve the longstanding Gazprom-Naftogaz commercial dispute.

The dispute centres on the long-term gas supply contract between Gazprom and the Ukrainian state-owned wholesale gas importer, Naftogaz. The 10-year contract was signed in January 2009, at the height of the Russia-Ukraine gas dispute. A parallel contract was signed to govern the transit of Russian gas across the territory of Ukraine, thus enabling Russian gas deliveries to customers West of Ukraine.

During the five years that followed the signing of the contract, Naftogaz challenged the pricing formula in the contract, claiming it was being overcharged. At the same time, falling Ukrainian gas demand left Naftogaz obliged to import (or at least pay for) gas that it did not need, under the ‘take-or-pay’ clause in the contract.

During the winter of 2013-14, Naftogaz accrued debts for unpaid gas bills. Although the two sides later agreed on how much (by volume) gas had been unpaid for, disagreement over the price of Gazprom’s gas supplies to Ukraine meant that the sides disagreed on whether Naftogaz’s later payments to Gazprom constituted a full or partial re-payment of those debts.

In July 2014, both Gazprom and Naftogaz launched arbitration proceedings at the Arbitration Institute of the Stockholm Chamber of Commerce. Gazprom sought to recover outstanding debts for gas that had already been delivered, and sought compensation for Naftogaz’s failure to adhere to the ‘take-or-pay’ terms of its gas supply contract since 2012.

For its part, Naftogaz claimed that it had overpaid for gas since 2010, and sought a rebate. Naftogaz also planned to use arbitration to negotiate a lower gas price, so that it would not continue ‘overpaying’ for the remainder of its contract.

The ruling of the 31st of May concerns the enforcement of the ‘take-or-pay’ clause in the Gazprom-Naftogaz gas supply contract.

The Arbitration Institute of the SCC has not publicised its ruling, nor has Gazprom published a response on its website. However, Naftogaz published a short press release on its website, stating:

The tribunal has rejected Gazprom’s “take-or-pay” claim and satisfied Naftogaz claim to make the contract price market-reflective. Furthermore, the tribunal has lifted the ban on gas re-export, which was part of the contract.

In a second press release, published earlier in the day, Naftogaz presented a graphical illustration of the competing claims of Naftogaz and Gazprom in relation to the arbitration case.

Although Naftogaz’s presentation of the claims and the first ruling have been widely reported in the mainstream media (including the mainstream Russian media), it is difficult to assess the accuracy of the interpretation of the first ruling, given Naftogaz’s clear self-interest in the case and the lack of an authoritative, neutral explanation of the ruling.

Furthermore, while the first ruling considers the ‘take-or-pay’ claim (and, according to Naftogaz, the pricing formula and uplifting of a ban on re-exporting imported gas), the next ruling will consider the price that should be applied to Naftogaz’s past purchases of gas from Gazprom, and the related size of Naftogaz’s outstanding debts. This ruling is expected during June.

Finally, it should be noted that the case has been bifurcated: The first part consists of a judgement of whether one side or the other is liable, and the second part will consider the size of the monetary awards to be made. Naftogaz and Gazprom will present their comments on the ruling by the 30th of June, and the consideration of the size of the monetary award will take place afterwards.

Gazprom in Asia

Gazprom and CNPC open two-way temporary checkpoint on the Russia-China border for construction of Power of Siberia

On the 11th of May, Gazprom announced that a temporary, two-way checkpoint on the Russian-Chinese border had been opened, to facilitate the construction of the Power of Siberia pipeline.

According to Gazprom, “The checkpoint is meant to provide unfettered access to the restricted area for operating personnel and construction equipment.”

The Power of Siberia pipeline will cross from Russia into China under the Amur River, which serves as a boundary between the two countries. Construction on the Chinese side of the border began in April 2017.

The closest major Russian settlement to the border crossing is the town of Blagoveshchensk, which is surrounded by the Blagoveshchensky District. Therefore, the new border crossing has been named Verkhneblagoveshchensky (Upper Blagoveshchensk).

Gazprom signs several memoranda on potential gas-sector projects in China at the Belt & Road Forum in Beijing

At the Belt and Road Forum in Beijing, on the 15th of May, the Gazprom CEO, Alexei Miller, signed several memoranda on potential gas-sector projects in China.

According to Gazprom, “three contracts were signed at the Belt and Road Forum to conduct pre-development surveys for the purposes of creating underground gas storage facilities in China’s Heilongjiang and Jiangsu provinces”.

Furthermore, “Gazprom, CNPC, and China Huaneng Group signed a Memorandum of Understanding to pursue joint efforts in the power sector within China”.

Finally, regarding natural gas as a vehicle fuel:

The Silk Road Economic Belt project proposed by the Chinese Government entails the creation of the Europe – Western China international transport corridor, which will stretch for some 2,300 kilometers just in Russian territory. On May 15, 2017, Gazprom, CNPC, Russian Highways, and China Communications Construction Company Ltd. inked a Memorandum of Cooperation aimed at developing road infrastructure and promoting the use of liquefied natural gas as a vehicle fuel along the aforementioned route.

As China’s gas consumption increases, the development of new gas storage facilities will be crucial to ensuring the stability of domestic supplies. This is an area in which Gazprom holds substantial expertise, and is therefore a potentially fruitful area of cooperation.

The agreements relating to the power sector refer to plans for the construction of gas-fired thermal power plants: another area in which Gazprom has considerable technical expertise and a clear incentive to promote gas as a power generation fuel in China.

Finally, the promotion of natural gas as a transportation fuel is a slightly different issue. The construction of gas storage facilities and gas-fired power plants are areas in which Gazprom has longstanding experience. By contrast, natural gas-fuelled transportation is a relatively new sphere of activity.

The promotion of natural gas as a vehicle fuel in China mirrors Gazprom’s similar strategies in Germany (through its subsidiary, Gazprom Germania) and in Vietnam. Gazprom has undertaken efforts to prove the reliability of gas-fuelled transportation through the entry of a gas-powered KAMAZ truck in international rallies, such as the Africa Eco Race in January 2017.

If the same Gazprom-sponsored, gas-powered KAMAZ truck participates in the forthcoming Silk Way Rally from Russia to China via Kazakhstan in July 2017, the symbolism will not be lost on Gazprom’s partners.

Other News

Gazprom reserve additions greater than annual production for 12th year in a row

In 2016, Gazprom increased the size of its gas reserves by a greater amount than the volume of natural gas it produced that year, for the 12th year in a row. According to a Gazprom press release:

Gazprom [has] ensured that its gas reserve addition rates surpassed its production rates for as many as 12 consecutive years.

In 2016, the Company added 457.4 billion cubic meters of gas to its reserves thanks to geological exploration conducted in Russia, as well as produced 419.1 billion cubic meters of gas.

Gazprom leads the world in terms of explored А+В1+С1 gas reserves, which reached 36.4 trillion cubic meters by the start of 2017.

The press release also noted that gas production at the Bovanenkovo gas field, on the Yamal Peninsula, reached 67.4 bcm in 2016 – an increase of 5.5 bcm in 2015.

Gazprom shows year-on-year increase in gas sales on St Petersburg International Mercantile Exchange (SPIMEX)

At a press conference on the 23rd of May, Gazprom representations presented the results of the company’s activities in terms of supplies to the domestic market in 2016.

Gazprom’s representatives noted that while total sales on the domestic market had declined by 2.8 percent year-on-year, to 214.9 bcm, the company had increased its flexible sales on the St Petersburg International Mercantile Exchange (SPIMEX) – From 4.3 bcm in 2015 to 10.7 bcm in 2016.

 

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