The European Gas Game Is About To Change

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Authored by Viktor Katona via,

In terms of oil and gas, post-Soviet nations are currently undergoing a consolidation phase that slowly brings back former partners that have fallen out in 2014-2016. Prices of both oil and gas have bounced back to such a level that satisfies the producer – an important feat in countries where hydrocarbon export revenues feed the economy – and new deals are being forged as a consequence. One of such is Gazprom renewing its purchases of Turkmen gas after a more than three-year hiatus, replete with frustrated hopes and mutual grievances. Moscow and Ashgabat have moved to leave past grievances aside yet the now emerging gas alliance is much more a marriage of convenience than of profound love.

The Turkmen-Russian gas axis has a decade-long history as Gazprom generally did not allow for direct transit of Central Asian gas through its massive transportation system yet agreed to buy out these volumes for further exports, basically making sure that the trader’s margin remains at all cases with them. Cognizant of the peculiarity of exporting gas to Ukraine, throughout years Gazprom used Turkmen gas to supply this Eastern European nation. In this vein, Russian and Turkmenistan have concluded a 20-year agreement in 2009 for the supply of up to 30 BCm gas per year. The contract also included a take-or-pay threshold of 10 BCm which would eventually turn out to be the stumbling block upon which the whole contract fell over.

Not only was there a take-or-pay threshold but the price was fixed, too, at 240 USD/MCm which was tolerable for Gazprom in the halcyon days of the early 2010s yet became unbearable after gas prices plummeted to 170 USD/MCm in 2015. For the Central Asian transit it needed, Gazprom opted for Uzbek volumes (all the more so as the Russian firm has own production there) and unilaterally terminated the Turkmen contract after several unsuccessful attempts to renegotiate the terms of the deal. Turkmenistan did not put up a scene as it had set its sight on China which promised to be a market outlet for most if not all of Turkmenistan’s ample natural gas.

Yet Turkmenistan suffered a double blow to its gas export plans – supplies to Iran were halted a year after Russia stopped its imports, due to the NIGC’s non-payment for substantial parts of the Turkmen volumes. This left Ashgabat with only one market outlet – China – which was satisfied with the roughly 40 BCm per year it received from Turkmenistan and did not have any immediate plans to increase it. Moreover, the Chinese were voicing their displeasure on the allegedly subpar level of gas transmission infrastructure on Turkmen territory and the inability of Turkmen side to supply gas uninterruptedly, especially in times of increased demand. Thus, Turkmenistan had to go back to Russia and find common ground again with Gazprom.

Hence came about the most recent Russo-Turkmen deal, which contrary to previous practice is short-term, a temporary filler before the two sides iron out a new long-term contract. Under the new deal signed April 15, it would be Gazprom’s Swiss subsidiary that would buy 1.2 BCm of Turkmen gas in H1 2019, to be supplied through the usual Central Asian route to customers in Southern and Central Eastern Europe (Gazprom Schweiz is routinely responsible for supplying the Balkan countries and Romania). Even though neither of the parties disclosed the details of pricing terms, the average European price Gazprom has reported lately, oscillating between $230 and $260 per MCm (see Graph 1), gives an insight what the Russians might be seeking.

Graph 1. Gazprom Export Gas Prices for Europe 2016-2019 (USD/MCm).

(Click to enlarge)

Source: Gazprom.

Gazprom seems to be unlikely to get into another fixed-price long-term deal, hence they would seek a setup that follows European prices and keeps a healthy trader’s margin anchored in. Despite its evident drive for maximum profit, the Turkmen side would not necessarily object to this as media reports put the price China pays for its gas at approximately $180 per MCm. Yet there are other interesting facets of the deal – for instance, it might seem a little counter-intuitive that Russia would start Turkmen transit in a year when European gas demand this winter turned out to be significantly lower than during the 2016-2017 and 2017/2018 seasons. Consider this in view of the quite small amount of gas in question, largely inadequate to make the long route via Central Asian gas pipelines economically viable, and you will see that this move might be a part of a wider strategy.

What advantage does the inclusion of Turkmen gas give Gazprom on a broader scale? Gazprom still has roughly 100 BCm per year of spare production capacity which it does not use due to a lack of market outlets, so the issue of feedstock shortage is out of question. On the other hand, the Russian firm might use Turkmen gas in political terms – the European Commission has been pushing for some semblance of gas source diversification for some time already and was eyeing Turkmenistan specifically as the closest possible supplier. Yet project after project, the idea of connecting Turkmenistan to Europe’s gas transmission system gradually fizzled out.

Whether the EC objects to Gazprom pumping its own gas via Nord Stream 2 or obstructs Russia’s attempts to extend TurkStream into Europe, the Russian firm can be creative about how it uses Turkmen gas as a negotiation chip. With China reportedly interested in creating new gas pipeline conduits from Russia to China, in addition to the Power of Siberia pipeline that will be commissioned this December, it might not even be a bad strategic decision. Russia and Turkmenistan are holding negotiations on a medium-term contract that would most likely see the light of the day in the second half of 2019. In view of the above, it might bring about some exciting changes in the European gas landscape.

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