Germany is Europe's largest economy, but great size isn't helping it get its way on energy. Berlin is bullish on constructing the Nord Stream 2 pipeline, a link that will deliver an extra 55 billion cubic meters (bcm) of Russian natural gas directly to Germany's doorstep, but the European pipeline politics that have hampered progress on the project have now grabbed the attention of leaders on the other side of the Atlantic. Worried by Russia's impact on Europe's energy security, the United States has made an unusual foray into the Continent's affairs, demanding that European backers of the pipeline drop their support, lest they face the wrath of Washington, which has predicated a new U.S.-European Union trade deal on abandonment of Nord Stream 2 and even threatened sanctions. As the debate within the European Union regarding Nord Stream 2 continues to simmer, the United States appears intent on defying even Germany to exploit the bloc's divisions and prevent the project from materializing.
Europe's reliance on Russian energy has long split Europe on how the Continent should best protect its energy security. Germany supports the creation of an internally robust market with a high degree of energy security. Other countries that are more reliant on Russian energy, like Poland, remain skeptical and view the Nord Stream 2 pipeline as a means that Russia can exploit to cut them out of the supply chain without harming important customers in Germany. The conundrum has forced Poland and others to approach the United States, which could impose sanctions to aid Eastern European countries in the battle.
The Pipeline Link Splitting Europe
For more than a decade, the European Union has struggled as a bloc to eliminate Gazprom’s stranglehold on the Continent's gas market. Despite pushes to diversify away from Russian energy and prop up alternatives, Russian natural gas exports to the European Union hit a record 155 bcm in 2017. For some in the European Union, along with many in Washington, the increase in Russian supply signifies the bloc's growing reliance on Russian natural gas — a development that carries grave political risk.
The fears are not without warrant. Gazprom — and, by extension, Russia — has used its energy supplies as a tool to isolate European countries, especially the Czech Republic, Slovakia, Poland, Lithuania, Latvia and Estonia, and extract political concessions by manipulating natural gas contracts, supplies and prices. In the past, Gazprom has taken advantage of its near monopoly in such markets to prevent customers from selling natural gas to its neighbors and charge unfairly high prices for the energy. Russian natural gas supplies to Poland, for example, have been dependent on Gazprom's continued control over the Yamal-Europe pipeline. Farther east, Ukraine, which the European Union has sought to add to its energy market even though it is not a member of the bloc, has also borne the brunt of Gazprom's offensives in the past.
Faced with what they perceive as predatory action by their larger neighbor to the east, these countries have sought to diversify their energy supplies while opposing more imports of Russian natural gas to the union. Nord Stream 2 thus presents an acute risk to countries like Poland, Ukraine and Slovakia as it would deliver a massive influx of energy directly to Germany without first transiting their soil, meaning Russia could sever or manipulate the separate natural gas supplies to these nations without worrying about the consequences for the larger German gas market. For Poland, the prospect of warm energy ties between two of its historic foes, Germany and Russia, has obliged it to approach a massive outside power: the United States.
In European capitals west of Warsaw, the concerns are different. Though its position may be shifting slightly, Germany has viewed the pipeline as a commercial project. Additionally, Berlin has argued that the European Energy Community's three-pronged strategy has alleviated many Eastern European concerns about energy security, especially regarding Nord Stream 2. First, Germany says the European Union has created a regulatory environment to weaken Gazprom's stranglehold through initiatives such as the Third Energy Package, which stipulates that pipeline operators cannot own the natural gas flowing through their facilities. (The European Commission is considering whether it can extend many of the Third Energy Package regulations to offshore pipelines, although one EU council legal opinion in March suggested this may not be the case.) Second, Germany believes the European Union has constructed many connections between member states' gas transmission networks to facilitate easy trade and create a common market, ensuring that Gazprom cannot sever the supply to any one country unless it were to take the radical step of cutting off the flow to the entire bloc. Third, Germany argues the bloc's antitrust investigation into Gazprom's past practices has resulted in a new deal that will force the Russian company to adhere to stringent EU rules and monitoring. But while Berlin asserts that Nord Stream 2 will have little substantial effect on Europe's energy security at large, its arguments have found few backers in Slovakia, Poland and Ukraine.
While Berlin asserts that Nord Stream 2 will have little substantial effect on Europe's energy security at large, its arguments have found few backers in Slovakia, Poland and Ukraine.
Ukraine Tussles With Gazprom
This three-pronged strategy has already forced Gazprom to alter its own actions and recognize that the irregular action it engaged in a decade ago is no longer possible. Gazprom has developed a more flexible policy toward European natural gas markets as part of its goals of quickly shipping its product anywhere on the Continent to undercut any potential competitors, whether from the eastern Mediterranean or liquefied natural gas competitors. The company has also altered its strategy by largely complying with the bloc's legal demands. Under the terms of the antitrust settlement package to be finalized on May 24, Gazprom will abide by EU competition rules while operating in the bloc for the next eight years, submit its contracts to EU oversight, agree to mechanisms in which its customers can review natural gas prices if they are higher than those in Western European hubs and drop clauses that forbid the resale of gas.
One major country, however, does not benefit from these tighter regulations: Ukraine. The country sits on the front lines of Moscow's tussle with the West more so than any other European nation. Since the Euromaidan uprising in 2014, the Kremlin has seen Kiev, once aligned to Moscow, hew a closer line to Brussels and — more worryingly for Russia — Washington. In previous years, the Kremlin has exercised the full force of its energy power against Ukraine in an effort to extract concessions from Kiev.
In response, however, Ukraine has worked hard to diversify its energy resources away from Russian natural gas. By binding itself to the European Energy Community and constructing pipelines to import natural gas from European neighbors, especially Slovakia and Poland, Ukraine sourced all of its natural gas imports — 14.1 bcm — from Europe (before 2014, all of its imported gas came directly from Russia). And by improving efficiency and switching to other feedstock for power generation and heating, Ukraine also reduced its natural gas consumption in 2017 to just 31.9 bcm, a 38 percent decline since 2013. Because of these moves, Ukraine has avoided importing any gas from Russia since November 2015.
In the end, what had once been a powerful source of leverage over Ukraine to ensure it followed Moscow's line may now represent a strategic chokepoint and weakness for Russia. Ukraine is also the most important artery today for Russian natural gas flowing to Europe. While the country itself did not import gas from Russia, 93 bcm of Russian gas transited through Ukraine’s pipeline infrastructure in 2017. Short of constructing new pipelines to replace Ukraine and the gas that transits through the country, Russia lacks any current alternative to its southwestern neighbor's pipelines, as other pipelines to Europe are operating at near-maximum capacity.
For Gazprom, diversifying away from Ukraine has become a strategic priority. As a consequence of its past actions in exploiting its leverage in Ukraine, Gazprom now finds itself embroiled in two international arbitration cases with Naftogaz, Ukraine's natural gas company, one of which is centered on a transit contract to send gas to Europe through Ukraine. In February a Stockholm arbitration tribunal sided with Naftogaz, ordering Gazprom to pay Naftogaz $2.56 billion. Because the current transit contract between Naftogaz and Gazprom concludes at the end of 2019, the Ukrainian company hopes to take advantage of its higher leverage to extract more concessions from Russia on price and value for the remainder of the deal. In the wake of the arbitration ruling, however, Gazprom quickly threatened to cancel the transit contract and duly filed the appropriate paperwork in April.
Nord Stream 2, with its scheduled annual supply of 55 bcm, and Turk Stream, which could supply 31.5 bcm of natural gas per year, are core aspects of Gazprom's diversification strategy away from Ukraine, although the questions over the location of the onshore pipeline have also hampered progress on the latter investment.
Washington Wades In
The United States and Poland are perhaps the largest political barriers to Nord Stream 2 at present. It should come as no surprise that the United States has inserted itself into the debate. Washington has long sought to prop up Eastern European allies like Poland and the Baltic states against Russia on economic, defense and energy issues, but today it wields a more powerful tool to accomplish such goals: the Countering America's Adversaries Through Sanctions Act. Under the terms of the 2017 act, the White House now argues that it has the authority to sanction any foreign firm that facilitates investment in Russian energy export pipelines, including their construction, modernization, expansion or repair. The argument includes Nord Stream 2 (and presumably Turk Stream). The stance puts Washington firmly in the hawk camp alongside Warsaw and Kiev.
Poland has also worked hard to place legal strictures on Nord Stream 2. In 2016, Poland's antitrust regulators forced Gazprom's European partners to withdraw from the consortium constructing Nord Stream 2 on the grounds that doing so would grant Gazprom too much control over the Polish natural gas market. In response, the five European companies involved decided to finance just 50 percent of the pipeline, but the Polish regulator has now argued that even this reduced stake may violate the country's antitrust rules. As a result, the body opened another antitrust investigation against the five firms on May 10 in the hopes of drying up Nord Stream 2’s financing even further.
Berlin's best hope of seeing Nord Stream 2 through to fruition is to exert more diplomatic pressure in Moscow to provide concessions that will assuage the worries of the naysayers.
Confronted by the powerful threats from Washington and Warsaw, as well as the anger in Kiev, Berlin has softened its position, arguing now that Ukraine must receive guarantees that it is a transit state. In this, Berlin's best hope of seeing Nord Stream 2 through to fruition is to exert more diplomatic pressure in Moscow to provide concessions that will assuage the worries of the naysayers.
But no perfect compromise solution exists on the political front. The United States, Poland and Ukraine all argue that even long-term guarantees are useless, since no measures can prevent Russia from abusing its position of power even if alternative pipelines are constructed. Such intransigence puts Germany in an awkward position as it considers how to approach the present U.S. administration. Because Washington has tied Nord Stream 2's future to any potential trade deal with the European Union, Germany appears to have little choice but to scale back its support for the pipeline and ease the worries of its allies near and far. In so doing, Berlin might decide that the battle it wishes to pick with Washington doesn't revolve around an energy pipeline.