(Bloomberg) — Much of Russia’s current gas export infrastructure points to the West. Unfortunately for Moscow, most of its gas customers now head to its east and much of the infrastructure it needs to supply them has yet to be built. The mismatch between pipelines and customers that will likely take years to resolve is part of a larger question raised by Moscow’s attack on Ukraine. The war drove Russia away from Europe, its biggest gas export market. So what has Russia – which has the largest reserves in the world – done with all that gas reserves?
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In 2021, Russia pumped about 150 billion cubic meters of gas through pipelines to Europe – enough to meet the combined annual consumption of Germany, France and Austria. Europe accounts for two-thirds of the country’s gas exports, including LNG flows. Since the Ukrainian invasion severely affected that trade, Moscow has sought new markets, expanded others, and committed itself to providing gas to parts of Russia that were not yet on the domestic grid.
Even with these efforts, Russia has no customers for about 90 billion cubic meters of pipeline gas, the estimated decrease in flows to Europe last year, adding pressure to its heavily sanctioned economy. The more than 50% drop in gas prices this year has put more pressure on earnings. Oil and gas together accounted for more than a third of Russia’s pre-war budget revenues. While oil continued to flow, Russia’s gas industry was at the center of a whirlwind that reduced gas revenues for the state and the country’s largest producer, Gazprom PJSC.
Gas production fell more than 13% in the first five months of the year compared to the same period in 2022. Gazprom, which exported pipeline gas that went to Europe, accounted for the majority of that drop. And had it not been for Novatek PJSC, Russia’s largest LNG producer, which kept its production steady and Rosneft PJSC, which pumped additional supplies into the domestic market, the decline would have been sharper.
European leaders have accused Moscow of weaponizing the gas flows at the start of the war, using pretexts to cut off supplies to punish countries that support Ukraine. As a result, prices soared, and Europe filled its storage sites last summer with the most expensive gas the region has ever seen, in part by reducing flows from the Nord Stream pipeline system that was subsequently damaged by the explosions and closed indefinitely last September. . A mild winter helped Europe weather a deep energy crisis, but for Moscow, replacing Europe was not so easy. Gas revenues fell nearly 45% between January and May compared to the same period in 2022 to 710 billion rubles ($8.3 billion), according to Finance Ministry data.
“When countries are subject to sanctions, there is initially a period where they struggle to adjust to the new situation,” said Peter Tertsakian, managing director of ARC Financial, a veteran energy investor, referring to the broader impact of sanctions on the sector. “However, the more severe the sanctions, the more creative the country will be in terms of figuring out how to overcome them.”
Russia has accelerated its axis towards China. Earlier this year, President Vladimir Putin declared that the development of gas production, processing and shipping facilities in eastern Russia, near the border with China, is of “real strategic importance.” However, Chinese President Xi Jinping’s visit to Moscow in March failed to bring about an immediate commitment from Beijing to buy more Russian gas.
The Kremlin’s shift to China will require new pipelines to supplement the Power of Siberia link, which began operating in December 2019. Shipments to China are only a fraction of those that flowed into Europe before the war, but they have grown and become so. It is expected to rise 42% this year to 22 BCM before rising to 38 BCM per year by 2025, enough to meet France’s annual consumption.
Before invading Ukraine, Gazprom signed a second supply deal with China, according to which the energy company would deliver another 10 billion cubic meters of gas per year over 25 years via a second pipeline known as the Far East Route, which has yet to be implemented. will be built.
Talks about the so-called Power of Siberia 2 project — which would double Russian gas flows to China to nearly 100 bcm — have been “in their final phase” for months, according to Moscow. Even if a deal is agreed by the end of 2023, it will take at least five years to build the pipeline, underscoring how difficult it will be for Moscow to replace Europe overnight.
“It appears that China is under no time pressure to negotiate,” said Vitaly Yermakov, a senior research fellow at the Oxford Institute for Energy Studies. “While Russia stands on a ticking time bomb, it faces a potentially sharp drop in gas export volumes.”
While some in the market believe that a partial resumption of flows to Europe is possible, the truth is that at some point the European Union would have turned its back on Russian gas. But, most thought the trigger would be the EU’s 2050 net-zero greenhouse gas emissions target, rather than military adventurism, and that they had more time to adjust.
Katerina Filippenko, Director of Global Gas Research at Wood Mackenzie Ltd. “It will take time to rebuild that confidence and get back to any kind of extra volume.”
Selling gas from door to door
Some countries such as the United Kingdom and the Baltic states have banned Russian gas altogether, including LNG, and more governments in the region have called on companies to reduce reliance on it. But a blanket ban on gas flows from Russia has so far been politically unpalatable in the EU. However, the speed with which Western European markets adapted to the reduction of gas in Russian pipelines particularly affected Gazprom. Production was cut by 20% in 2022 to 412.6 bcm, the lowest level in at least 15 years. Its net income attributable to shareholders fell by more than 41%, to 1.23 trillion rubles.
Türkiye has traditionally been among Gazprom’s three largest buyers. Gas exports through Russia’s pipelines to the country reached nearly 27 billion cubic meters in 2021, up from 16.4 billion in 2020, according to Gazprom’s latest data.
Russia is now seeking to take advantage of that relationship to use Türkiye to transport exports to Europe. President Recep Tayyip Erdogan, who has styled himself as a mediator between Russia and Ukraine, welcomed Putin’s idea of establishing a trading center in Turkey, where Moscow’s gas could be marketed, but the details remain vague.
Gazprom has already shared its conceptual plans for the creation of the hub with Ankara. The company also intensified its talks with some former Soviet republics. It signed a supply contract with Uzbekistan in June and is discussing business opportunities with Azerbaijan and Turkmenistan. Talks with Kazakhstan appear to have progressed further as the two sides signed a cooperation agreement at the start of 2023 that could boost imports of Russian gas but also lead to the construction of new pipelines to carry the fuel to China.
All of these options — a Turkish trading hub, new markets in Central Asia, additional pipelines to China — require significant political wrangling to advance, leaving Russia with limited options in the short term on what to do with its gas reserves.
The decline in production indicates that much of it is still in the ground.
Nevertheless, Russian LNG exports are booming, albeit from a very low base, accounting for 12% of total LNG imports to Western Europe this year. France, Belgium and Spain imported record amounts from Russia in 2022, a fact that European officials are beginning to pay close attention to. Both the Netherlands and Spain are taking steps to ban LNG imports from Russia, but the region as a whole is unlikely to stop buying supercooled fuel from Moscow anytime soon.
Moscow wants to triple LNG production by the end of the decade, and it can use spare pipeline capacity after flows to Europe drop to reach the target. Novatek wants to connect a proposed LNG facility in Murmansk to Gazprom’s gas network, in a move that could allow the company to liquefy gas that would previously have been pumped to Europe.
Switzerland-based MET International is used to trade Russian gas via pipelines. Along with other traders, it now relies on global LNG deals to fill gaps in Europe’s gas needs, a task MET CEO Giorgi Varga described as “enormous”.
“The kind of relationship is different,” Vargaha said. “All of a sudden you have to be in contact with global merchants, Asian utilities, American and African companies.” “This is a huge turnaround for energy buyers across Europe.”
Keep the house fire burning
Russia was already expanding the domestic gas network before the war began. The process is being accelerated across the vast territory of Russia to increase demand and support production. Putin said last year that “wherever possible, gas, be it pipeline or liquid, should reach the consumer.” The ambition is to raise domestic access to fuel to 83% by 2030 from 73% last year.
To achieve this, the gas industry will need to connect homes like that of Alexandra and Anatoly Alikov, who live in a village in the Leningrad Region. In January, the couple received a visit from Dmitry Medvedev, former president and Putin’s deputy on the Russian Security Council. Over tea and cake – all carefully captured by state television – Medvedev revealed the reason for his visit: The cottage had just been added to the gas grid, 15 years after it was built.
“There are smiles on the faces of people who have just received gas, we just saw it,” Medvedev told TV cameras. “You can ‘tell the difference,’ as they say,” he added, apparently mocking European households who had to trade in Russian gas.
Publicity aside, Russia and its gas industry will likely feel the “difference” for years to come.
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