Moscow's decades-old gas ties with Europe lie in ruins

The Collapse of Moscow’s Gas Monopoly: What It Means for Europe’s Energy Future

In 1970, an initial deal between Germany and Russia for gas trade was hailed as the “contract of the century” due to its lucrative benefits for both countries. However, in the current economic climate, it remains to be seen whether deals with China can be as profitable for Russia’s Gazprom.

According to a recent Reuters analysis, Gazprom’s revenues are expected to decline this year, a trend that has been exacerbated by the ongoing military conflict in Ukraine. The combination of Western sanctions and Russia’s decision to cut energy supplies to Europe has significantly reduced the country’s energy exports. While it is easier to find new markets for crude and refined products, the same cannot be said for gas, which has been the basis of Russia’s trade with Europe for decades.

Russia’s gas trade with Europe is reliant on thousands of miles of pipelines stretching from Siberia to Germany and beyond. Until last year, this trade relationship locked Western buyers into a long-term supply agreement, but the current situation is different. “Of course, the loss of the European market is a very serious test for Russia in the gas aspect,” said Yury Shafranik, Russian fuel and energy minister from 1993 to 1996.

A former senior manager at Gazprom was even more direct, saying that “the work of hundreds of people, who for decades built the exporting system, now has been flushed down the toilet.” Despite this, current employees maintain that it is business as usual, with one official in Novy Urengoy, Russia’s “gas capital,” stating that “nothing has changed for us. We had a pay rise twice last year.”

However, the reality is that the state gas export giant, Gazprom, is facing significant financial challenges. The company’s revenues from overseas sales in January 2023 were estimated to be around $3.4 billion, down from $6.3 billion in the same period last year. Based on forecasts of exports and average gas prices, Gazprom’s exporting revenues are expected to almost halve this year, which will further widen the $25 billion budget deficit that Russia posted in January.

This situation has been further compounded by the ongoing military conflict in Ukraine. As a result, information about Gazprom’s financial results is no longer being disclosed, and estimates based on export fees and volumes data show that the company’s natural gas exports last year were almost halved, reaching a post-Soviet low. European Commission President Ursula von der Leyen estimated that Russia cut 80% of gas supplies to the EU in the eight months after the conflict began in Ukraine, meaning that by the end of last year, Russia supplied only around 7.5% of western Europe’s gas needs, compared with around 40% in 2021.

Russia has long been seeking to diversify its gas markets, and the current situation has provided added impetus to this effort. In October, President Vladimir Putin proposed the idea of a gas hub in Turkey to divert Russian gas flows from the Baltic Sea and North-West Europe. Additionally, Russia is looking to boost its pipeline gas sales to China, which is the world’s largest energy consumer and top buyer of crude oil, liquefied natural gas (LNG), and coal. The Power of Siberia Pipeline began supplying China with natural gas in late 2019, and Russia aims to raise annual exports to around 38 billion cubic meters (bcm) from 2025.

Moscow has an agreement with Beijing for another 10 bcm per year from a yet-to-be-built pipeline from the Pacific island of Sakhalin, while plans for Power of Siberia 2 from Western Siberia are also in development. However, whether this trade relationship can be as profitable is yet to be seen.

As the crisis in Ukraine rages on, Western sanctions and Russia’s decision to cut off gas supplies have had a devastating impact on the country’s energy exports, and it is unlikely that Russia’s gas trade with Europe will recover anytime soon.

The latest round of sanctions, which include price caps, is likely to further disrupt oil trade, but it is easier to find new markets for crude and refined products than for gas. Russia’s gas trade with Europe has been based on thousands of miles of pipelines that begin in Siberia and stretch to Germany and beyond. Until last year, these pipelines locked Western buyers into a long-term supply relationship, but that has now changed.

“Of course, the loss of the European market is a very serious test for Russia in the gas aspect,” said Yury Shafranik, Russian fuel and energy minister from 1993 to 1996. A former senior manager at Gazprom (GAZP.MM) was more direct, stating that “the work of hundreds of people, who for decades built the exporting system, now has been flushed down the toilet.”

Despite the significant setback, current Gazprom employees insist that it is business as usual. “Nothing has changed for us. We had a pay rise twice last year,” a Gazprom’s official, who is not authorized to speak to the press, said in Novy Urengoy. The Arctic city, which was built to serve the biggest gas fields, is often referred to as Russia’s “gas capital,” and it houses many of Gazprom’s offices.

Gazprom, the state gas export giant, was formed in the dying days of the Soviet Union in 1989 under the Ministry of Gas Industry, headed by Viktor Chernomyrdin. “Chernomyrdin never allowed anyone to put his nose into Gazprom. It was a state within a state, and remains so to an extent,” said Shafranik.

However, since the military operation began on Feb. 24 last year, less information has been available. Like many Russian companies, Gazprom stopped disclosing details of its financial results. According to Reuters’ estimates, based on export fees and export volumes data, Gazprom’s revenues from overseas sales were around $3.4 billion in January, down from $6.3 billion in the same period last year. The figures, combined with forecasts of exports and average gas prices, imply Gazprom’s exporting revenues will almost halve this year, widening the $25 billion budget deficit Russia posted in January.

Already, the company’s natural gas exports last year almost halved to reach a post-Soviet low, and the downward trend has continued this year. European Commission President Ursula von der Leyen estimated that Russia cut 80% of gas supplies to the EU in the eight months after the conflict began in Ukraine. As a result, Russia supplied only around 7.5% of western Europe’s gas needs by the end of last year, compared with around 40% in 2021.

Before the conflict, Russia had been confident of selling more gas to Europe, not less. Elena Burmistrova, the head of Gazprom’s exporting unit, had told an industry event in Vienna in 2019 that the company’s record-high exports outside the Soviet Union of more than 200 billion cubic meters (bcm) achieved in 2018 were the “new reality.” Last year, the total was just above 100 bcm.

Russia’s transporting capacities were undermined last year after mysterious blasts in the Baltic Sea at the Nord Stream pipelines from Russia to Germany. Russia and the West blamed each other for the blasts. Pulitzer Prize-winning U.S. reporter Seymour Hersh claimed in a blog that the United States was responsible, which the United States called “utterly false.”