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The looming third European gas crisis

Alan Riley

Date: 17/12/2019
The January gas crisis will test the mettle of the EU’s new leadership team.

At 10 am Moscow time (8 am Brussels time) on 1 January 2020, the Russian-Ukrainian gas transit contract is set to expire. The transit route through Ukraine is one of the principal gas routes into the EU. In 2018, it carried 87bcm of gas, which is roughly equivalent to Germany’s total annual consumption. Despite ongoing negotiations since July 2018 between Ukraine, Russia and the EU (represented by the European Commission), no new transit deal has yet been agreed for the period from 1 January. Unless a deal is suddenly agreed in the dying days of 2019, the EU is about to enter its third European gas crisis, following those of 2006 and 2009, when various EU member states saw their gas supply from Russia disrupted.

Following the 2009 gas crisis, Gazprom and Naftogaz (the Russian and Ukrainian state-owned gas companies respectively) agreed on a 10-year transit contract. This guaranteed the shipment of Russian gas to Europe via the ‘Brotherhood’ pipeline network that runs across Ukraine and generated $3 billion in transit fees to Naftogaz in 2018. Given the 2020 expiry date, the two companies entered into trilateral negotiations with the Commission.

Gazprom and the Russian Federation rejected a January 2019 joint European Commission-Ukrainian proposal which would have resulted in a new decade-long contract, guaranteeing an annual minimum of 60bcm passing through the Ukrainian system. From a Ukrainian standpoint, a long-term contract for 60bcm is preferable as it will secure a significant transit fee income and maintain the viability of the Brotherhood pipeline. From an EU perspective, maintaining the viability of the Brotherhood pipeline network which has a capacity of over 130bcm and storage facilities of over 30bcm enhances European supply security. From a Russian stance, a short-term (i.e. one-year) deal which could be renewed for another year if US sanctions delay Nord Stream 2 is preferable. The Russian objective is to bring Nord Stream 2 into operation and substantially replace gas flows via the Brotherhood pipeline with those via Nord Stream 2. However, such a reduced use of Brotherhood would mean that much of its network would become unviable.

Trilateral meetings in autumn 2019 saw Ukraine agreeing to act quickly to unbundle the Ukrainian network fully on the EU model, and Russia accepting that gas would transit through Ukraine following this model. However, the Russian side reinforced a series of preconditions, including the withdrawal of several Naftogaz claims to and awards from the Stockholm Court of Arbitration which may cost Gazprom almost $15 billion.

If the Russian-Ukrainian gas transit deal does expire without a new deal in place by 1 January, European hubs are likely to experience a surge of gas prices. However, thanks to infrastructural upgrades since the 2009 crisis, there are unlikely to be supply shortages in the short term. Also, since the crisis has been anticipated, gas storages across the Union and in Ukraine are unusually full.

The downside is that these very preparations create incentives for the crisis to rumble on into February with minimal supply shortages across the Union. Furthermore, from the perspective of Gazprom and other energy companies, the price surges in European gas hubs will enhance profitability. 

In any case, by late January or early February, storage facilities will begin to empty, and some member states could face shortages. While alternative sources of supply like liquefied natural gas (LNG) and interconnection across the Union will help reduce the supply shortage threat, this may not be enough to shelter some member states, notably those in Southeast Europe, from supply shortages.

The political and policy impact of the gas crisis is likely to become one of the first major tests of the new EU leadership team. One obstacle the new Commission is likely to face at the onset of the crisis is Gazprom, backed by Russia, seeking greater access to the OPAL pipeline. The OPAL pipeline is a connecting pipeline for Nord Stream 1. In the September ruling of Poland v. European Commission, drawing on the principle of solidarity contained in Article 194(1) TFEU, the EU General Court struck down a 2016 amendment to a Commission decision which had the practical effect of allowing Gazprom access to gas flows on the entire pipeline. The ruling restored the original 2009 decision, limiting Gazprom’s access to 50% of the 36bcm capacity pipeline.

In theory, the Commission could adopt a new decision-taking account of the ruling of the General Court in the OPAL case and restore full access to the pipeline. However, the solidarity obligations imposed by the General Court are significant. In essence, when approving an energy project under the Gas Directive 2009/73/EC, a member state regulatory authority and the Commission endorsing any national measures must take account of the interests of all member states and the Union as a whole (i.e. the functioning of the internal market, competition, supply security). Where there is a conflict of interests, a quasi-judicial balancing of interests is required. The new Commission could soon find itself caught between Russia and some member states who wish to witness greater Russian gas flows on the one hand, and EU case-law and some states who oppose any new decision on OPAL on the other.

The immediate problems of managing the legal strategy and political pressures surrounding the crisis are likely to be followed by a reassessment of EU energy policy. As the Commission assesses the weakness of the EU’s supply security response, LNG may come to play a greater role in the EU’s energy mix as more member states respond to the crisis by ensuring that they or their neighbours have sufficient access to LNG when required. Besides, more states may establish storage facilities. However, in the medium to long term, the putative third European gas crisis will likely cast further doubt and political scrutiny on the role of gas in the EU’s future energy mix, given its persistent geopolitical sensitivity and the EU’s ambitions for deep decarbonisation as outlined in the recently issued European Green Deal.

Dr. Alan Riley, Senior Fellow, Atlantic Council, Washington D.C. In the interests of full disclosure, Dr Riley has previously advised the Polish Oil Mining and Gas Extraction S.A. and Naftogaz.

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