The European Commission’s decision on 24 May to impose “binding obligations on Gazprom to enable free flow of gas at competitive prices” – but no fine – is seen by some observers as a victory for Gazprom. Others take a more positive view. Meanwhile, a new report from IHS Markit claims Europe is on the point of becoming fully integrated into the global gas market, making worries about dependence on Russian gas – and Nord Stream 2 – unnecessary. But, the report adds, transit through Ukraine will remain important. Energy Post’s editor-in-chief Karel Beckman reports.

Gazprom must change its behaviour in Eastern Europe, but it won’t have to pay a fine. That is the final outcome of the competition case against the Russian company which started in 2011 with raids on Gazprom offices in 10 EU capitals.

Many are disappointed. Countries like Lithuania and Poland had pressured Competition Commissioner Margrethe Vestager to impose a (steep) fine on Gazprom for its violation of EU competition rules, but Brussels decided otherwise.

In April 2015, the Commission had concluded, in a Statement of Objections, that Gazprom had “breached EU antitrust rules by pursuing an overall strategy to partition gas markets along national borders in eight Member States (Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland and Slovakia). This strategy may have enabled Gazprom to charge higher gas prices in five of these Member States (Bulgaria, Estonia, Latvia, Lithuania and Poland)”.

The Commission decision of 24 May, three years later, “puts an end to this behaviour by Gazprom”, Brussels said in a press release, while stopping short of fining the company.

New rules of play

The decision it imposes on Gazprom consists of “a detailed set of rules that will significantly change the way Gazprom operates in Central and Eastern European gas markets”:

• “No more contractual barriers to the free flow of gas: Gazprom has to remove any restrictions placed on customers to re-sell gas cross-border.
• Obligation to facilitate gas flows to and from isolated markets: Gazprom will enable gas flows to and from parts of Central and Eastern Europe that are still isolated from other Member States due to the lack of interconnectors, namely the Baltic States and Bulgaria.
• Structured process to ensure competitive gas prices: Relevant Gazprom customers are given an effective tool to make sure their gas price reflects the price level in competitive Western European gas markets, especially at liquid gas hubs.
• No leveraging of dominance in gas supply: Gazprom cannot act on any advantages concerning gas infrastructure, which it may have obtained from customers by having leveraged its market position in gas supply.”

Combined, “these obligations address the Commission’s competition concerns and achieve its objectives of enabling the free flow of gas in Central and Eastern Europe at competitive prices”, the Commission said.

The “new obligations (so-called “commitments”) are legally binding on Gazprom under Article 9 of the EU’s antitrust Regulation 1/2003,” the Commission stresses. “If a company breaks any of these obligations, the Commission can impose a fine of up to 10% of the company’s worldwide turnover, without having to prove an infringement of EU antitrust rules.”

In a separate statement, Commissioner Vestager acknowledged that “some would have liked to see us fine Gazprom instead, no matter the solution on the table.”

“The case doesn’t stop with today’s decision – rather it is the enforcement of the Gazprom obligations that starts today”

However, she said “a fine would not have achieved all of our competition objectives in this case. We can only make sure that Gazprom takes positive steps to integrate isolated gas markets, if Gazprom commits to do so. And we can only offer Gazprom’s customers an effective right to adjust their gas price, if we bind Gazprom to a structured process. With today’s decision Gazprom has accepted that it has to play by our common European rules, if it wants to sell its gas in Europe. In fact, it has accepted to play by a rulebook that is tailor-made to ensure that European consumers can benefit from the free flow of gas at competitive prices.”

“The case doesn’t stop with today’s decision – rather it is the enforcement of the Gazprom obligations that starts today.”

In other words, Vestager implied that imposing a fine on Gazprom would have prolonged the case even further, since Gazprom may have appealed it. The Commission was apparently eager to end the uncertainty around it.

Interestingly, Vestager also said that the decision “matters to our climate. If we want to achieve our ambitions from the Paris Agreement we need to increase the share in our energy mix of renewable energy, such as wind and solar. That also means we need gas as a flexible back-up capacity for the days when the sun is not shining and the wind is not blowing.”

It seems a somewhat remarkable statement in the context of a decision in a competition case. You could ask whether this doesn’t weaken Europe’s negotiating position in the international gas-geopolitical context.

Good day for Russia

Many observers were disappointed by the Commission decision.

Andrew Rettman of the EUObserver dubbed 24 May “a good day for Russia in Europe”.

He noted that on the same day, French President Macron visited Russian leader Putin in St. Petersburg: “They met in a palace and ate caviar. Macron addressed Putin as “cher Vladimir” and quoted Russian writers, while Putin gave his wife flowers in what Russian media called “bouquet diplomacy”. France and Russia disagreed on various things, Macron said, but called for “strong multilateralism” on Iran nuclear non-proliferation. “I hope Russia understands France is a credible and trustworthy European partner,” he said.”

Rettman pointed out that “The visit focused on Iran and was not linked to the Gazprom decision, but Macron brought a business delegation, including French energy firm Total, who invested $2.5bn in Russian gas projects. French firm Engie is among EU backers of Nord Stream 2, along with Anglo-Dutch company Shell, Austria’s OMV, and German firms Uniper and Wintershall, who also sent top men to meet Gazprom in St Petersburg on Wednesday.”

“The St Petersburg crush came one week after German chancellor Angela Merkel met Putin and agreed to build Nord Stream 2”, Rettman even added, with some hyperbole.

Merkel did visit Putin on 18 May. On this occasion she defended Nord Stream 2, but did add that “Germany believes Ukraine’s role as a transit country should continue after the construction of Nord Stream 2… it has a strategic importance”. She added that Germany was ready to help ensure such an outcome. It’s not quite the same as “agreeing to build Nord Stream 2”, which is not Merkel’s decision in any case.

Gazprom customers with long-term contracts now have the right to demand lower prices if they’re paying more than West European customers with competitive markets

Other commentators take a more positive view of the Commission’s decision. Writing on Bloomberg, analyst Leonid Bershidsky contended that “Europe has tamed Gazprom, not let it off the hook”.

Bershidksy writes that the settlement “shows that the company has been defanged and is no longer a threat to Europe’s energy security.”

He observes that “it forces Gazprom to make up for the lack of interconnector pipelines in Bulgaria and the three Baltic states by letting customers buy gas at lower prices set for other countries and have it delivered to these four nations. Gazprom customers with long-term contracts now have the right to demand lower prices if they’re paying more than West European customers with competitive markets.

The Russian supplier has also agreed to a number of other conditions, including a waiver of any compensation for the cancellation of the South Stream project. The pipeline, which was supposed to carry gas from Russia to Austria via Bulgaria, Hungary and Slovenia, died a painful death in 2014 after the EU interfered to scupper construction deals.”

In addition, “Gazprom has agreed to eight years of close supervision by the EU, which will arbitrate any disputes. Vestager and her successors can fine the company up to 10 percent of its global revenue if it violates the settlement terms.”

Nord Stream 2

So how will the competition decision influence Nord Stream 2?

Bershidsky believes “the settlement also provides evidence that it might make sense for both Germany and Russia to let the EU regulate Nord Stream 2, the pipeline into Germany that Gazprom has started building even though it lacks some necessary permits from Denmark and Sweden.”

That seems a bit too optimistic. “Regulating” Nord Stream 2 under the EU Gas Directive, as the European Commission wants to do, would scarcely be acceptable to Russia. (See this and this article for more information on the Commission’s proposal to extend the EU Gas Directive to “import” pipelines such as Nord Stream 2.)

What does seem possible is that the Commission’s competition decision is part of a silent understanding between the Commission, Merkel and Putin including a Russian promise not to entirely close off its Ukrainian transit after Nord Stream 2 is built

Anders Aslund, a Russia expert at the Atlantic Council, and a fierce critic of Russia, takes the opposite view. He told EUObserver: “That the EU competition case against Gazprom had not been concluded was a strong argument against Nord Stream 2, which now has disappeared.” In other words, according to Aslund, the European Commission, which has repeatedly said it opposes Nord Stream 2, cannot now use the threat of a fine anymore as a weapon in negotiations with Gazprom.

But one imagines that playing power politics would not be regarded as proper in any case by the competition officials in Brussels. It is true that there has been talk of a ‘grand bargain’ with Russia which would involve both the competition case and Nord Stream 2, but if such a deal has been made at all, it would not of course be presented as such.

What does seem possible is that the Commission’s competition decision is part of a silent understanding between the Commission, Merkel and Putin including a Russian promise not to entirely close off its Ukrainian transit after Nord Stream 2 is built.

But that is speculation on my part. Certainly, the timing of the decision is extremely sensitive. European relations with Russia are frayed as a result of the occupation of Ukraine and incidents such as the downing of the MH17 airplane and the Skripal case. At the same time, the EU is furious with U.S. president Trump over his decisions to ditch the Iran deal and impose tariffs on European steel and aluminium. Both Merkel and Macron discussed the Iran nuclear deal with Putin and confirmed the EU’s commitment to it. In this respect, Trump’s confrontational policies play right into the hands of Putin.

New configuration

In any case, to view the EU-Russian gas relation as a form of unilateral dependence, does not seem to do justice to the facts.

Not only has the EU managed, through successive pieces of legislation, to successfully “liberate” EU gas markets, as almost all analysts agree, Russia also depends on the revenue it obtains from the European market.

Bershidsky even argues that Gazprom’s position is “precarious”. He writes. “At any point, it could need its European customers more than they need it. The company’s executives understand they face a competitive and politically difficult environment in Europe. That requires them to play nice and offer prices that are difficult to undercut. It also makes supply disruptions highly unlikely, even for geopolitical reasons.”

That may be exaggerated, but most analysts agree that the dependence is mutual.

Indeed, international energy consultancy IHS Markit has just come out with a new report – European Natural Gas – the New Configuration, which takes a quite optimistic view of Europe’s alleged gas “dependence”. It argues that “a major transformation is poised to advance Europe’s energy security goals and improve natural gas flows in European markets.”

The report concludes that despite declining domestic gas production, Europe need not worry too much about dependence on Russian gas

According to the report, “new sources of supply via increasing global liquefied natural gas (LNG) capacity and pipelines, along with continued market integration, will provide European gas customers greater flexibility and choice and further the integration of Europe with global gas markets and prices.”

“Most European gas customers will have greater opportunity to choose among competitive supply options by the early 2020s”, notes IHS Markit.

In other words, the report – based on a “Pan-European Gas Flows and Price Differentials Model” that explores the implications of key developments such as new infrastructure, competitive purchasing and global pricing dynamics – concludes that despite declining domestic gas production, Europe need not worry too much about dependence on Russian gas.

“Greater capacity for gas imports—from several currently planned and potential pipelines such as Nord Stream 2, Eugal, Turk Stream and Trans-Adriatic Pipeline (TAP) and Trans-Anatolian Pipeline (TANAP)—along with greater LNG import capacity, will more than compensate for the reduction in indigenous supply”, the report says.

IHS Markit projects that global LNG capacity will increase by 40 percent from the beginning of 2017 to 2022. Part of this growth will come from the United States, where new LNG capacity to export globally will more than triple to 67 million tons over the same period.

The report expects Europe’s total natural gas import capacity to increase by more than 20 percent by 2020. In 2017 European consumers imported 348 billion cubic meters of gas, which meant that Europe’s total import capacity was used at 58 percent. There is significant spare capacity, notably in LNG regasification facilities in western Europe.

“A vast majority of customers in the European Union are today located in highly liquid and competitive markets—the result of a decades-long path of regulatory liberalization and competition policies”

Additional investments—primarily pipelines—could increase import capacity by more than a further 100 bcm. “These levels of capacity will be sufficient to meet a growing demand for natural gas imports as onshore and North Sea supplies decline, and critically, support the role of storage in meeting winter and weather fluctuations.”

As a result of growing imports and greater connection to LNG, IHS Markit expects European gas prices to be increasingly set by the global market. “Spot gas prices across the EU should converge within a narrow price range. This closer convergence in pricing will stand in contrast to North America where prices can vary widely across the continent.”

The report observes that “a vast majority of customers in the European Union are today located in highly liquid and competitive markets—the result of a decades-long path of regulatory liberalization and competition policies.”

Fundamental shift

Daniel Yergin, vice chairman of IHS Markit and renowned energy analyst, concludes that “Gas supply to Europe is on the cusp of a fundamental shift that will ultimately transform flow patterns for the entire continent. Europe will continue to become more integrated with the world market, marking the globalization of European gas.”

According to Michael Stoppard, chief global gas strategist for IHS Markit, “Europe is well positioned for these transformative changes as the traditional sources of supply are replaced by imports from an emerging diversified and growing global gas market. The expanded availability of diverse sources of supply is built on the twin pillars of pipelines and LNG.”

“This coming transformation of European gas flows encapsulates profound and ongoing steps toward the goal of creating a single, pan-European gas market”

In yet another comment, Shankari Srinivasan, vice-president, gas & power for Europe at IHS Markit, notes that “this coming transformation of European gas flows encapsulates profound and ongoing steps toward the goal of creating a single, pan-European gas market. The physical point at which gas enters the European market, whether by pipeline or LNG tanker, and the identity of the supplier is becoming of less and less significance. Market forces are creating checks and balances that bring cost-effective gas supply to consumers.”​

This last point directly relates to Nord Stream 2. In fact, the analysis by IHS Markit shows that building more pipelines (including Nord Steam 2) will have a positive effect on the EU gas market. It also shows that Nord Stream 2 will not push out the competition and will not raise prices in Eastern Europe.

However, at the same time the report concludes, significantly, that Ukrainian transit will continue to be necessary for Europe.

It notes that “transit of gas through Ukraine is expected to continue, and it would be detrimental to the system overall were it to be terminated entirely. At times of low seasonal demand for gas, and in the early years of the operation of Nord Stream 2, throughput in the Ukrainian system may fall to low levels but still play a role in optimizing European flows. But even during this period, the flow of gas through Ukraine would play an important role in meeting peak European demand at times of high seasonal requirements. Ukrainian transit volumes are then seen to recover in the mid-2020s as Europe’s indigenous production continues its decline.”

In addition to Ukrainian transit, the IHS Markit report stresses the importance of the Southern Gas Corridor, the new pipeline connections from Azerbaijan (and perhaps other sources) that the European Commission is promoting: “The full operation of both Nord Stream pipelines, along with continuing Ukrainian transit and the operation of the Southern Corridor, would be important for moderating prices and ensuring security of supply in a scenario where high global prices were to pull LNG away from Europe.”

These conclusions are in line with the message the German government has been sending in recent months: Nord Stream 2 fine, but we don’t want to give up Ukrainian transit altogether. It will be interesting to see how the Russians will respond to that.

Editor’s Note

This article was first published, a in slightly different form, on Energy Post Weekly, the premium website of Energy Post, in Karel Beckman’s weekly section Energy Watch. If you don’t want to miss out on Energy Watch – and Sonja van Renssen’s weekly Brussels Insider section on EU energy polices, you can sign up for a subscription here.

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