The received wisdom is that Europe cannot offend Russia because it depends so much on Russian natural gas. We have this backwards. It should be: Russia cannot offend Europe because it depends too much on sales of natural gas sales to Europe.
The third quarter 2014 audit report of Gazprom , the Russian national gas company, shows a substantial decline in sales of Russian natural gas to Europe. The audit report hides the magnitude of the 2014 third quarter decline by reporting only sales for the first nine months of 2013 and 2014, not third quarter to third quarter figures. But analysts can readily separate out the third quarter results by subtracting out the first two quarters for each year.
Here are the results: In Europe, Gazprom sold 6 billion cubic meters less in the third quarter of 2014 compared to third quarter of 2013 (from 40 billion cubic meters to 34 billion, or a loss of 15%). The smallest decline was for France (3%); the largest was for Rumania (a whopping 93%). Sales to Germany, Gazprom’s largest buyer, fell 14%. Notably, the delivery declines in those countries that engaged in back-flow sales to Ukraine, like Slovakia and Poland, were not greater than in other countries.
At average European prices, the 15% decline in sales means a third quarter decline of $2.2 billion from the European market.
Russian gas exports to Commonwealth of Independent States countries fell by 8 billion cubic meters (by 62%). This drop is explained by the collapse in third quarter sales to Ukraine from 8.5 billion cubic meters to zero. At a price of $300, the decline in revenue from Ukraine equals $2.5 billion for the third quarter.
The decline in Gazprom’s deliveries and revenues cut deeply into Russia’s export earnings. For the year 2013, Russia earned $73 billion from natural gas exports. If the third quarter declines in sales were to continue at the same pace for a year, Russia’s earnings from natural gas to Europe would fall by $10 billion, which equals 15% of gas export sales worldwide. The Russian budget and the financially-strapped Gazprom can’t afford dollar losses of this magnitude.
Gazprom’s auditors’ discussion of risk factors should send chills down the spines of its shareholders. They warn that if Gazprom must conform to Europe’s requirement that its production and transportation divisions be broken up (and its pipelines opened to third parties), Gazprom will lose its failing monopoly hold over the European market. The Gazprom report warns about the risks of transporting gas through Ukraine (without mentioning the war going on there), and offers the South Stream pipeline as a solution without mentioning that this project has been shelved. Moreover, the auditors do not mention that Russian propaganda had flooded European media with warnings of the unreliability of transport through Ukraine. With respect to sanctions, Gazprom warns that they might “somewhat” complicate relations with partners, but that Gazprom is undertaking measures “to protect its business reputation.”
Russia’s dependence on the Ukrainian natural gas market (despite current complaints of nonpayments) has gone largely unnoticed. In the past, Gazprom sales to Ukraine have equaled about 20% of sales to Europe, making Ukraine a trading partner roughly equal to Germany. As the accompanying chart shows, Gazprom’s Ukraine gas market would disappear if Ukraine reformed its energy market to eliminate the waste that makes it one of the world’s least efficient energy users. It appears that reform of its energy market stands high on the to-do list of the new Ukrainian government.
As a Russian energy analyst (V. Milov) summarizes the Gazprom report: “Taking into consideration the current economic reality, this is not the best news for our ruling elite.”
