Opinion: Nord Stream - The Sequel

Summer is the time for movie blockbusters and some film studios prefer safer sequels over original plots, often independent of the success of the original.

So it is perhaps appropriate that Gazprom recently proposed to expand its Nord Stream gas pipeline to ship more gas directly to Germany.

This latest episode in the ongoing drama of Russian pipeline politics follows a popular (perhaps even correct) script of Russian proposals ‘with political strings attached’, designed to use national self-interest to undermine European solidarity on Ukraine and on Russia sanctions.

The proposal to expand Nord Stream comes amid difficult negotiations on Turkish Stream, which, in December, replaced South Stream as the main transit proposal for Southern Europe and which is designed to further weaken Ukraine.

Gazprom is in dire need of direct access to trading hubs in north-western Europe, as its old business model - ‘from wellhead to burner tip’ - is no longer fit for purpose and is detrimental to its market position in Europe.

The economics of the Nord Stream route may also help Gazprom to rationalise its export strategy in Europe and convince its masters in the Kremlin not to turn it into an old-style Soviet ministry of gas.

There are some real benefits of the Nord Stream extension proposal.

Most obviously, the Nord Stream route is closer to Russia’s new production base in Yamal and costs would be lower for Gazprom to ship gas directly into its largest and most liquid market in north-western Europe.

This is a major advantage compared to any current alternatives such as Turkish Stream or the Ukrainian route.

Next, the main market for Turkish Stream, is, unsurprisingly, Turkey which, although a fast growing gas market, is in general a riskier proposition for Gazprom than north-western Europe because of potential snags (as seen from the long-running price disputes during the Blue Stream pipeline project under the Black Sea).

Turkish Stream

Indeed, reports say Russia and Turkey have essentially put a hold on Turkish Stream negotiations since mid-June and are already bickering over who is to blame for the delays.

That said, expanding Nord Stream would not allow Russia to fully bypass Ukraine and Russia would still need at least another line of Turkish Stream.

Third, the inherent problem with Turkish Stream is the need for inevitably fraught negotiations with European buyers to change delivery points for Russian gas currently coming through Ukraine, including at the Slovak-Ukraine border and at Austria’s Baumgarten trading hub.

European buyers may agree (at a price), to change the delivery point for some of their gas now coming through Ukraine, but in any case, they would not want to depend on a single delivery point, which, for Turkish Stream, would be the Greek-Turkish border.

The full-blown Turkish Stream vision, of 63 billion cubic meters (bcm) of gas per year with a delivery point at the Greek-Turkish border, is therefore impossible in practice.

Finally, the existing Nord Stream pipeline has already established onshore connections, in particular through the Czech Republic.

These pre-existing connections will allow Gazprom to avoid the need for contract negotiations for the new pipeline under the Baltic Sea, as the expansion of Nord Stream will ship gas directly to the Czech Republic and Austria and so the delivery point would remain practically the same.

Cleverly designing the regulatory regime for onshore connections in Germany, the Netherlands, and the Czech Republic would probably allow the project sponsors to receive exemption from third party access (TPA) laws - Gazprom and its partners would just need to use the TAP exemption as a template.

Another advantage of Nord Stream expansion, at least for Germany, Austria, and Gazprom, is that it will allow Austrian and German trading hubs - NCG, Gaspool and CEGH - to become more important than the UK and Netherlands’ TTF/NBP hubs.

If 110 bcm of Russian gas (or a substantial fraction) is to be physically shipped to Germany, then surely Gazprom can control the pace of development of the hub by actively engaging in gas trade from there.

This would circumvent the need to develop a trading hub in its home market (at St. Petersburg), which has no physical (or commercial) connection to the real markets where most of its paying customers reside.

Security realities

But pipeline deals, however they evolve, cannot trump the need for Russia and Europe to normalise their political relationship, in particular with regard the Ukrainian crisis.

Any further pipelines from Russia that would circumvent Ukraine will face political opposition from Brussels - these pipelines are designed to weaken an already financially distressed Ukraine.

These new pipelines to Europe would face additional regulatory hurdles under EU competition legislation and increased scrutiny by the European Commission, adding to the concerns which have led to the existing investigation of Gazprom.

Ensuring security of supply is clearly in the national interest of Germany and other member states, but, ultimately, security of supply is not as simple as building new pipelines.

Chi Kong Chyong is director of the Energy Policy Forum at the Judge Business School, University of Cambridge, UK