Russian – EU – Ukrainian gas talks
Don’t believe the hype, it’s (almost) business as usual
by Zuzanna Nowak, May 3, 2019
The bilateral Russia Ukraine gas transit contract expires at the end of this year bringing the potentially conflicting interests of both parties and the EU into focus. The EU will be acting in the interest of those member states directly affected as well as having a role in avoiding tensions affecting its neighbour Ukraine. Cue much speculation from interested and neutral observers alike. Zuzanna Nowak, independent researcher and commentator, sums up the state of play for Energy Post.
The IFRI’s recent “Edito Energie” on Russia-Ukraine gas relations depicts a dramatic scenario for the coming months. Their premise is that with little more than half a year to go until the end of the Gazprom – Naftogaz gas transit contract, there are still far too many big outstanding uncertainties regarding the future of Russian gas supplies to Europe and their impact on gas markets. It describes a plot full of pitfalls creating tensions with the climax of the conflict set for “one second to midnight”, just as the bilateral gas transit contract expires, on the 31 December 2019.
All very exciting! But in the sober light of day, whilst the situation is certainly multi-faceted, I don’t see it as perilously poised as the IFRI makes out. To begin with, the possibility of emotions running high, as in the 2006, 2009 and 2014 Ukraine-Russia gas crises, is relatively low for the following reasons:
- The timing of the termination of the Russia-Ukraine gas contract – during the winter of 2019, the heating season – comes as no surprise to any of the parties
- Its proximity to the aftermath of 2019’s Ukrainian and European elections likewise and
- The controversies and impediments which have dogged the Nord Stream 2 project (Russia’s de facto backstop) have become part and parcel of the gas debate for years already
In short, it has been known for months, or even years, that just such an uncertain political setting would provide the backdrop to the new trilateral Russian-Ukrainian-European talks.
The fact that each of the participants has had plenty of time to prepare its negotiating position and implement supportive measures is clear from the footing of the respective players:
The EU: maintaining stability in gas supply, and in politics
It seems that the European Union has learnt the lessons from the previous Ukrainian-Russian gas crises. Not only in theory – through improvements to legal (e.g. Security of Gas Supplies Directive), ideological (e.g. Energy Union) and financial (e.g. Connecting Europe Facility funding) instruments, but also in practice. Construction of new LNG terminals and gas interconnectors between the EU member states have to a large extent responded to the gas market security gaps identified during the 2014 stress tests.
Europe is less and less vulnerable to gas supply disruptions and would probably be able to cope with a potential “no transit” scenario next winter. However, due to geopolitical issues and the importance of Russia’s share in the European gas portfolio, its member states remain divided over the question of the need for diversification from Russian gas supplies. These issues can be critical because natural gas has such an important role to play in the European energy transition.
The EU is involved in the Russian-Ukrainian negotiations for two principal reasons. First, it has a fundamental need to protect security of supply since numerous member states, mainly in Central and Southeast Europe are beneficiaries of the Russian gas transited through Ukraine. Second, in the spirit of neighbourly solidarity, it supports gas market reforms in Ukraine that are in line with its own regulations. In addition to this, the EU sees itself as having a peacekeeping role on the International stage (sealed with a Noble Peace Prize) and will wish to maintain its credibility as a mediator. These are broad lines and whoever takes the role of the European negotiator after Maroš Šefčovič will have to follow them. The devil is in the detail: it will take an experienced European mediator to influence the process and terms (duration, volumes, tariffs, etc.) of any new agreement. Otherwise, European involvement will have a purely political dimension.
Russia: in no great hurry
Russia produces enormous volumes of gas which, due to their location, are intended for sale in the EU via pipelines (at least as long as LNG infrastructure is under development). And Europe needs that gas. Hence, Russia participates in trilateral talks with the EU and Ukraine for two main reasons. First, it wants to export its gas to the EU and even increase its market share (as a source of federal budget revenues and a means to keep its sphere of influence), while maintaining a reputation as a reliable and trustworthy partner. Second, Russia wants to avoid further reliance on Ukrainian gas transit but is not yet sure of the outcomes of the European and US proceedings against Nord Stream 2. Trilateral talks on the Ukrainian route constitute Russia’s “Plan B” for any further Nord Stream 2 setbacks.
Russia’s stance on the trilateral talks is the most predictable, as internally there are no political, gas market, nor export policy changes expected any time soon. It is clear that Russia could use the Ukrainian route only under very strict conditions, most probably related to short term contracts, flexible volumes, low prices and international guarantees for transit. But the Russians are not in a hurry. Not only will they hold back from reaching agreements before the end of the year but could even opt to frustrate negotiations until either Nord Stream 2 becomes operational, or Europe (in need for gas) and Ukraine (in need for pressure in its pipelines) ask for Russian help. That is to say – Russian gas.
Ukraine: lots to gain, lots to lose
Ukraine arguably sits at the negotiation table with the weakest position, troubled by war, with a fragile economy, and in the midst of electoral games. Unfortunate for Ukraine since they have the most to gain.
Ukraine is out to secure a significant share of its own energy demand. Furthermore, it also needs Russian transit gas as a source of revenue, as a physical link with the European Union, and, as it claims, as a protection from further Russian aggression. However, motivation and experience from previous gas disputes were not enough for the reform of the Ukrainian gas market to succeed (e.g. unbundling, creation of a TSO, etc.) and protect the country from a new gas crisis. There is no great chance that Ukraine will manage to go smoothly through the next winter unless trilateral negotiations bring an agreement in early January at the latest and/or the Nord Stream 2 operation is postponed.
Therefore, Ukraine works actively on both fronts, fighting fiercely against Nord Stream 2 construction and looking for European support in the gas talks.
Ukraine has begun negotiations with a very clear message, that any new agreement with Russia will have to comply with European legislation, Gazprom will have to obey arbitrage rulings, pay the compensation claims (with the possibility of reduction if the terms of the agreement are satisfactory) and accept Naftogaz’s high transport tariff. The truth is that Ukraine will most likely have to revise its expectations (in the name of European values).
Is a Ukraine-Russia gas crisis on the horizon? The IFRI publication rightly points out that the end of the year will be fraught thanks to numerous uncertainties. But, stemming from an analysis of the three parties’ attitudes and positions, even worst-case scenario(s) should not lead to high drama. Since all three parties have learnt lessons from the past, the end of the year will most likely be a common headache than a crisis.