Resurgence in need of restraint

By Jared Anderson

Russia’s gargantuan state-run gas company, Gazprom, has been touted as the driving force behind the country’s economic resurgence. The boundary between the state and the gas giant exists in name only, as numerous government officials, including Russian President Dimitry Medvedev, were high-ranking Gazprom executives before entering into politics. The company’s intimate relationship with the Kremlin has allowed it to experience tremendous financial success, perfectly evidenced by its 2008 revenues of an astounding $26.8 billion.[1] More importantly, though, is the fact that this single entity run by a single state now controls nearly a quarter of the world’s gas reserves, which not only guarantees Gazprom financial success, but also gives Russia the ability to use its gas-distributing arm as a political wedge.[2] And, if Russia’s track record is any indication, the country will utilize this strength for every possible benefit it may bring.Gazprom’s recent advocacy of the most ambitious natural gas pipeline ever proposed, South Stream, perfectly demonstrates Russia’s immense desire for dominance over the industry. Russia claims that such a pipeline would be squarely “aimed at strengthening the European energy security.” [3] However, the Nabucco pipeline, an alternative proposal endorsed by the United States that uses Caspian Sea gas and runs directly from Turkey to Europe, trumps South Stream in two essential regards: not only does Nabucco cost less than half the price of South Stream, but its capacity, at 31 billion cubic meters (bcm), is slightly larger than the Gazprom pipeline’s capacity of 30 bcm.[4] Therefore, the “energy security” argument is proven to be entirely unsubstantiated, as Nabucco provides greater gas capacity with the added benefit of increased financial flexibility for European countries. Further examination divulges the reality that this situation is much more than a traditional case of two companies marketing their respective proposals.

As the competition between the Nabucco and South Stream projects perfectly exemplifies, Gazprom can literally play by a different set of rules than its opponents. Nabucco’s investors are interested in the proposal because of the project’s financial potential, and therefore must be completely confident that there will be enough supply and demand for the pipeline in order for the plan to proceed. Any ambiguity in profit projections, then, decreases the willingness of investors to back the endeavor. Gazprom, on the other hand, can readily pursue projects that are not economically viable, as long as the Kremlin believes they will benefit Russia’s overall political goals. Specific to this case, Gazprom’s unique status has allowed it to make an aggressive push to completely dominate the European energy market through South Stream, as the company is able to virtually ignore any potential financial ramifications. Since Gazprom already supplies 25% of Europe’s natural gas, further infiltration into the region could very well wipe out its competition in the battle over this critical market, and ultimately give Russia undeniable political clout over a number of countries.[5]

Additionally, the relationship between the Kremlin and Gazprom allows Russia to wield incredible expertise in the natural gas sector. The company is fully aware that, unlike oil, the most critical aspect of natural gas distribution is not the resource itself, but rather the pipelines through which the gas is transported. The construction of South Stream will ensure that Russia has a guaranteed vehicle for gas distribution without any sort of expiration date. However, for these very reasons, some outsiders have speculated that the country has aggressively pushed South Stream in order to account for internal concerns over the country’s gas supply.

Indeed, a number of agencies have called into question the status of the Russian natural gas industry. The International Energy Agency’s (IEA) recent report on Russia’s gas delivery raises concerns about both the country’s gas supply and its infrastructure.[6] The United States’ Energy Information Agency (EIA) echoes these ambiguities, citing the fact the Russia’s four largest gas fields have all recently experienced significant declines in production.[7]

While Russia’s notorious lack of transparency prevents further insight into the status of its natural gas resources, the completion of South Stream would render such questions irrelevant; for even in the event of declining production, Gazprom would still profit tremendously by leasing out the pipes to other countries. Thus, advocating South Stream ensures Russia has entrenched itself in a “win-win” situation of guaranteed dominance over European gas. As previously alluded to, tangible information about the nature of Gazprom’s business dealings is virtually non-existent. Particularly shrouded in secrecy is its policy of gas distribution through regional intermediaries.

For example, RosUkrEnergo, which supplies Gazprom’s gas to the strategically imperative Ukraine, is half-owned by two long-unidentified Ukrainian businessmen with alleged links to Russian organized crime. Former President Vladimir Putin’s 2004 attempts to confront such accusations by vehemently asserting that “we don’t know the identities of the hidden owners” perfectly summarizes the nature of Gazprom’s dealings.[8] The company not only signs multi-billion dollar contracts with enigmatic individuals, but has no system of accountability whatsoever. It is difficult to imagine that there would be any reason for such secrecy other than to cover up illegal activities, something that Gazprom could get away with quite effortlessly given its relationship with the Kremlin.

So, while the Kremlin and Gazprom amass record profits, the real financial loser is consistently shown to be the countries importing Russian gas. They are coerced by Russian “pipeline politics” into putting up with Gazprom’s questionable practices because they have no alternative gas suppliers. Thus, the argument that South Stream will benefit anyone besides Russia and its select contract holders becomes increasingly hard to make. To date, the company has shown very little convincing evidence of practicing fair and responsible business. Until it does, the European Union should make a stand to resist Gazprom’s aggression and actively pursue any opportunity to receive gas from non-Russian sources. Reexamination of Gazprom’s stated goals for South Stream in the context of both the company’s structure and recent history provides unsettling projections for the long-term future. For European nations, the extent of Russia’s propensity to use gas as a political weapon was fully realized on January 1, 2006, when Russia cut off its gas supplies to pro-Western Ukraine. This display of aggression was eerily similar to events that transpired during the 1973 Yom Kippur War, when the Organization of Petroleum Exporting Countries (OPEC) strategically cut off oil to nations supporting Israel.

With such precedent, the prospect of an OPEC-like cartel controlling the natural gas industry cannot be ignored, especially when Gazprom Deputy Chief Executive Alexander Medvedev has been quoted as stating that "Gazprom is for the pursuit of dialogue which already exists in the framework of the gas forum which gathers together the most important gas exporters." [9]

While Gazprom executives deny having aspirations further than that of a “forum” when directly confronted, the company’s history of aggressive actions make such statements dubious. The European Union and the rest of the world cannot allow a cartel to be formed amongst leading national gas producers, as the creation of such a group would do nothing to prohibit the use of natural gas as a political weapon in the future.  OPEC’s dominance over the oil market has shown just how much power an alliance with control over a strategic resource can wield. All steps must be taken to ensure that natural gas does not succumb to the same fate, and the first step in doing this is to ensure fair, transparent competition.

Unfortunately, recent signs indicate that Russia’s brand of “pipeline politics” may very well be working better than the Kremlin expected. The country’s unwavering commitment to South Stream has raised questions among financiers about how to guarantee the constant flow of gas through the Nabucco pipeline. In response, Turkey has repeatedly suggested including Iran as part of the plan, due to its proven natural gas reserves of 974 trillion cubic feet (tcf), which trails only Russia for second most in the entire world.[10] Consideration of Iran as a Nabucco supplier places the United States in a unique quandary, as it is either forced to support Russia’s continued dominance of the natural gas market or an Iranian regime that has repeatedly defied calls to halt its nuclear program. Since Iran obviously poses the most imminent threat to worldwide security, the United States must, above all, ensure that Iran is not included in the supplying of the Nabucco line. However, maintaining staunch opposition to Iranian supply of Nabucco allows a number of underlying factors to potentially work in the United States’ favor.

Most notably, the Nabucco plan is set to be completed in stages, and experts calculate that Azerbaijan alone will be able to supply enough gas for the first phase.[11] In other words, Iranian gas is not necessary for the pipeline proposal to commence. During the first phase, other nations in the vicinity, such as Iraq, Turkmenistan, and Kazakhstan, will have the opportunity to improve their respective infrastructures with the hope of being able to supply subsequent Nabucco stages by 2010 or 2011.[12] Finally, the time gap would theoretically allow relations to improve with Iran, and utilization of its gas supplies may very well be feasible at a later date.

Continued American support for the Nabucco pipeline in the interest of European energy diversity, then, is absolutely critical. Moreover, we must reinvigorate our relationship at the highest levels of government with Central Asian nations, including Azerbaijan, Turkmenistan, Kazakhstan, and Turkey, in an effort to push the Nabucco proposal. These countries, according to Senator Richard G. Lugar (R-IN), would welcome our diplomacy and are eagerly waiting to be freed from Russia’s shadow.[13] They have the gas to supply Europe’s needs, and with our backing, their infrastructures will improve over time. Further, we must not only work with these European and Asian countries, but also encourage them to work with each other.  Nothing short of a unified force will be capable of outmaneuvering Gazprom. Fortunately, there is historical precedent for virtually the same course of diplomacy, as U.S. support for the Baku-Tbilisi-Ceyhan (BTC) and Baku-Tbilisi-Erzurum (BTE) projects of 2006 allowed the respective governments of Georgia and Azerbaijan to resist Russian influence and utilize their own resources. These pipeline projects were able to succeed despite the same questions over supply, commercial viability, and Russian influence. Since our intervention in 2006, the two countries have progressed dramatically towards greater sovereignty. Other Caspian nations must be encouraged to follow the example set by their neighbors.  As was the case with BTC and BTE projects of 2006, anything less than swift diplomatic action will condone Gazprom’s questionable practices and pave the way for the company to further increase its hegemony over the gas industry. Until Gazprom improves its transparency and ethics, such ascension simply cannot be allowed. However, Gazprom does not need to be sabotaged; Russia does not need to be attacked. Rather, fair competition must be held as the overarching standard, a criterion that Gazprom is not likely to excel at. The benefits of the Nabucco line, both political and economic, are strong enough to beat out Gazpron’s South Stream. U.S. support for the Nabucco line would not only ensure true European energy diversity through fair competition, but also prevent the consolidation of the natural gas industry for decades to come.