December 12th, 2012

Putin’s new victory over Brussels will lead to Gazprom’s demise

After almost 10 years of negotiations with Turkey and Southern European countries Russia finally outmaneuvered EU. Last week Vladimir Putin gave a start to the construction of South Stream pipeline, which will deliver Siberian gas directly to the Southern Europe bypassing Ukraine. Nabucco, a EU pet-project, is now officially dead as well as hopes of Central Asian countries to export their natural gas to Europe.

The total cost of South Stream is estimated to be around 26 billion dollars. This number can only grow as it happened with other Gazprom’s elephant projects. The company won’t see any additional income from this investment, since Gazprom will just redistribute natural gas from the Ukrainian pipelines to South Stream. Nevertheless, the giant will save up to 2 billion dollars a year, a transit fee that Gazprom currently pays Ukraine. These mediocre savings obviously don’t justify huge and risky investments.

South Stream will destroy the value of Ukrainian pipeline system and Azerbaijan natural gaz reserves

In the absence of any substantial financial benefits, Gazprom can long for broader strategic advantages as a result of South Stream.

First, South Stream will help Gazprom to corner the European market by blocking the export of Central Asian gas to Europe. Though five years ago this was a rational strategy for the Russian energy giant, now it doesn’t make a lot of sense. Liquid natural gas combined with shale gas technologies will make European market more competitive anyway.

Second, South Stream will help to reduce the bargaining power of Ukraine, the largest Gazprom’s customer. After North and South Stream will reach their project capacity, Gazprom will be able to shut down natural gas transit through Ukraine. The situation of 2005-2009 when gas supply to Southern Europe was interrupted because of the Russian-Ukrainian conflict over the transit fees and gas price won’t be possible anymore. Again, this achievement doesn’t look as significant as it did five years ago. Ukraine already pays the highest price for Russian natural gas and rapidly cuts its consumption.

In sum, the project, which looked essential for Gazprom five years ago, now doesn’t bring neither financial nor strategic benefits for the company. However, Gazprom and the Russian government fail to recognize changes on the world energy market and still fight with the ghosts of the past. Influential Gazprom’s contractors won’t allow stopping the construction as well. The drop in natural gas prices combined with hopeless investment projects might destroy the monopoly sooner than EU finishes its antitrust probe against the company.

FT

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