After several years of failures in Europe, Gazprom is getting ready for a commercial counterattack with its North Stream-2 gas pipeline project, which will deliver gas to the continent while bypassing Ukraine entirely.

The strategic plan of the Nord Stream-2 project is to have the gas go directly to Germany, bypassing Ukraine, and then to Austria, and from there, using new future infrastructure, to Southern Europe – Italy, Greece, the Balkan countries and Turkey. Photo: Reuters

The Russian gas sector is revitalizing and a real chance has appeared to finally realize one of Gazprom’s “projects of the century” – the North Stream-2 (NS-2), which will deliver Russian gas to Europe, bypassing Ukraine.

Until now, the EU authorities, with the support of the United States, in every possible way have created obstacles for the project, primarily for political reasons. And there’s a commercial angle as well – they did not want to deprive Ukraine, a political friend, from the considerable amount of money earned for the transit of Russian gas.

Russian exports to Europe have reached about 140 billion cubic meters of gas annually (representing more than 30 percent of the entire market), and subtracting Finland, Turkey and the Baltic States, then about 70 percent of the exported gas travels through Ukraine.

However, the moods in some European capitals have recently changed, with leaders having realized that the NS-2 will be very cost-effective for them. Ultimately, this is more important than some political reasons.

Commerce or politics?

The North Stream-2 will have a length of about 1,200 km (approximately 750 miles), and will run under the Baltic Sea from the Russian coast to Germany. The capacity of the two lines will be 55 billion cubic meters annually. This pipeline is planned to have double the capacity of the first North Stream. Gazprom plans to start construction in April 2018, and finish it by the end of 2019.

The pipeline is being built by the North Stream 2 Company – a consortium of shareholders for the future project, which includes Gazprom, BASF/Wintershall, Uniper, Engie, OMV and Shell. Representatives of these companies claim that the construction of the NS-2 will cost 8 billion euros ($8.8 billion). One year ago, in June 2015, the chairman of the board of Gazprom, Alexey Miller, told Reuters that he estimated the preliminary budget for the pipeline at 9.9 billion euros ($10.9 billion).

The United States has been constantly opposed to the NS-2 project. Just recently, in late May, the U.S. called on the authorities of the European Union to put a hold on the plans to build the North Stream-2 pipeline. The project, according to the U.S. State Department, has a political, rather than commercial character. Russian Foreign Minister Sergey Lavrov, on the contrary, said that the Americans are playing politics everywhere. When it comes to the Gazprom pipeline, he affirms, it is pure commerce.

Here it is appropriate to recall the history of the NS-2. After all, the idea to build a gas pipeline bypassing Ukraine via the Baltic Sea and the Black Sea (the North Stream and South Stream, respectively) was voiced by none other than Russian President Vladimir Putin. This is where the European partners, whose political sympathies are entirely on the side of Kiev, decided to put the brakes on this project.

The Russian side, beginning to invest significant sums of money into the South Stream, very quickly realized that this project was a no-go, because many European countries would never approve this path. The European Commission, referring to the notorious “Third Energy Package,” as a result of which Gazprom cannot be the transporter of its own gas, also tried to block the project.

Also read: "Unclogging the issues blocking Russia's Nord Stream 2 pipeline"

Later, the Russian authorities promulgated the idea of the ​​Turkish Stream. However, this idea also quickly died out – especially after last autumn, after political relations between Moscow and Ankara worsened, because of the downed Russian plane. It was at that time that the Russian leadership came up with the idea to increase the flow of gas through the Baltic Sea – to build two new branches, called the North Stream-2.

The strategic plan of the NS-2 project is to have the gas go directly to Germany, bypassing Ukraine, and then to Austria, and from there, using new future infrastructure, to Southern Europe – Italy, Greece, the Balkan countries and Turkey. Thus, it should be able to replace the failed South Stream.

We should note that this project is very interesting for foreign participants of the consortium that are involved in the construction of the NS-2. It is 49 percent owned by leading and well-known Western companies. These companies, in agreement with Gazprom, will recoup their investments into the construction work, and will receive fees for the transportation of the gas.

Moreover, these fees would not be for the physical volume of the transported gas, but for the maximum throughput capacity of the pipeline. That is, for foreign companies this is very profitable – they invest money into construction, become operators, and thereby receive money, regardless of the effectiveness of the project.

The Russian participant of the consortium, which owns 51 percent of the project, is a division of Gazprom, which will also earn a tidy profit. As the experts estimate, if the rates are the same as for the North Stream-1, the Gazprom division will receive about $1.25 billion annually for transport fees, regardless of the volume of gas transported. Therefore, of course, Gazprom is also very interested in this project.

Foreign interest

From the Russian perspective, it is extremely important that Europe show high interest in this project. In particular, in Germany they are very interested in this project, as well as in some other European countries. First of all, this is because Gazprom is promising to deliver gas on new terms that are more profitable for the Europeans. In other words, the Russian gas company is ready to “decouple” the price of gas from oil prices, and focus on the spot market price.

It is no coincidence that German Chancellor Angela Merkel has already said that the construction of the North Stream-2 meets the interests of Germany. In fact, after the implementation of the NS-2, Germany would become a European gas hub. It is through its territory that the main source of energy will be distributed among the other members of the EU.

Perhaps it is with this in mind, that the Minister of Economy and Energy of the Federal Republic of Germany, Sigmar Gabriel, said that the construction of the North Stream-2 pipeline does not fall under the EU’s internal rules – the so-called “Third Energy Package.” Gabriel even expressed confidence that the legal service of the European Commission shares this position.

However, in addition to compliance with EU legislation, Germany has identified two conditions under which it is ready to support the project – Russia must not threaten the transit through Ukraine and not restrict deliveries to Eastern Europe. The main obstacle to the implementation of the NS-2 is the position of the Eastern European countries, led by Poland and Slovakia. For now, Warsaw is putting politics over economics.

“Poland is against the construction of the North Stream-2 project for one simple reason – we believe that it is not economically justified. Basically, this is more of a political project, which, we believe, also harms the EU,” according to Polish President Andrzej Duda.

Slovakia, along with Poland, has remained one of the most ardent opponents of the project until recently. However, in contrast to the politically motivated Warsaw, Bratislava is pursuing purely commercial objectives. Termination of Russian gas transit through Ukraine, from which Slovakia receives fuel for its own use and for transshipment to Europe, threatens significant financial losses for the country – more than 800 million euros ($880 million) annually. This is a huge sum for a small country. In addition, Slovakia now enjoys the opportunity to resell Russian gas, by supplying it to Ukraine through reverse flow, thus obtaining additional income.

However, in the past two months, Russia has undertaken extensive efforts to promote this project especially in Slovakia – with the Foreign Ministry and Ministry of Economic Development joining this process. Changing the position of this country on this issue is very important, as the representative of Slovakia, Maroš Šefčovič, is vice president of the European Commission on Energy Issues. In addition, from July to December 2016, Slovakia holds the Presidency of the EU Council of Ministers. It is during this period that the European Union will have to decide the future of the NS-2.

“All shareholders of the NS-2 project have great interest in its implementation. And these are not just slogans, but real material interests,” Mikhail Krutikhin, managing partner of RusEnergy, a Moscow-based analysis and consultant agency, told Russia Direct.

“Nevertheless, the arguments of those who oppose the project, for example – the European Commission officials, Polish politicians, the Baltic countries – are political and very emotional. They are sticking to two positions,” says Krutikhin.

“First, they claim that this is a project with the very bad Gazprom, which has a negative reputation – so let us not be friends with it, it is an unreliable supplier. Second, let us not offend Ukraine and deprive it of transit revenues. These are not material interests. That is why I say, in addition to emotions, there is nothing there.”

Also read: "Gazprom: Three key challenges facing Russia's energy giant"

Gazprom willing to go the extra mile

If we look at the NS-2 situation from a wider European context, it must be admitted that, in spite of the resistance of Brussels, Gazprom is willing to go the extra mile (literally) by increasing the supply of fuel to Europe. In 2015, Germany set a record in terms of Russian gas imports – 43.5 billion cubic meters, an increase of 6 billion over 2014.

Moreover, since the beginning of 2016, Gazprom’s deliveries to Germany increased by 44 percent, to Italy by 43 percent, to France by 73 percent, and to Austria – by more than 50 percent. In short, the trend is in favor of Russian gas, despite the decline in consumption of the “blue fuel” in the EU and an increase in the share of alternative energy sources within Europe.

In addition, if this issue is approached objectively, in the Old World there are no visible serious alternatives to Russian gas. Yes, the U.S. began deliveries of liquefied natural gas (LNG) to Europe, but in spite of the low prices for natural gas in the Americas, it is not a fact that the U.S. will be able to compete with decreasing prices being charged by Gazprom. This is because LNG still needs to be delivered from the U.S. to the European continent, and this dramatically increases its cost.

Norway also cannot significantly increase the supply of gas to the EU, a fact that has been repeatedly stated by the representatives of Statoil, the largest oil and gas company in the country. Qatar has no intentions of selling LNG to Europe at dumping prices, as it did after 2008.

In addition, there are expectations that the EU will reduce its own production of the “blue fuel.” The reason for this is the drop in gas production in the Netherlands, Europe’s largest deposit in Groningen. As of the end of last year, the Netherlands even became a net importer of gas.

Against this background, the supply of Russian gas to the European market will increase. It is important to note that this forecast is not being given by Russian experts, whose opinions can be considered as biased, but by European analysts. In particular, the National Grid, a UK-based company, whose analysts believe that Russia could increase the supply of gas to Europe by 47 billion cubic meters by 2035, compared with the previous year’s level. The highest supply growth is expected to occur in the UK – an increase of 38 percent.

Alexey Miller, during the last shareholders’ meeting of the company, confirmed the interest in gas supplies to that country, and said that Gazprom will now engage in direct dialogue with the United Kingdom, without intermediaries. Even more so now, after Brexit, there are no obstacles to such a dialogue.

In addition to this, Gazprom plans to build an LNG plant in Ust-Luga, together with the company Anglo-Dutch Shell, which is scheduled to become operational in late 2021 or early 2022. In addition to Shell, other foreign participants may join this project, said Miller. This plant will serve as an insurance policy for the North Stream-2, while supplies of Russian LNG to the European and world markets will be more competitive, compared with those coming from the United States, according to the head of Gazprom. Executives at Shell and from other energy companies in Europe agree with him.

In short, after several years of “defeats” on the European gas market, mainly related to geopolitical reasons, Gazprom is preparing for a large-scale counter-offensive – in a purely commercial sense. And the NS-2 project is the main “weapon” in this attack.