As the conflict between Russia and the West escalates along Ukraine's borders, Europe and Russia's long energy interdependence has become a critical bargaining piece on both sides.
Gas and oil-rich regions Russia is connected to European energy markets via a number of important pipelines, the largest of which runs through Ukraine and has become a choke-points for both sides in negotiations to avert the escalating crisis.
Last year, gas delivered to Europe via Ukrainian pipelines plummeted by 25%, and fears of additional disruptions have grown as Russian military have increased their presence near the Ukrainian border.
Moscow refutes Western assertions that it is planning an invasion of Ukraine. However, if the crisis escalates, there are few options for filling the void if Russian gas supplies to Europe are cut off.
S&P Global Platts Analytics estimated at the end of January that a complete suspension of Russian gas flows into Europe was a "highly unlikely scenario," but even minor disruptions in the face of a post-pandemic global gas reserve shortage and steeply rising prices could cause significant pain for European energy markets and downstream consumers.
Disruptions to any of the four main gas routes, Nord Stream, Yamal, Ukraine and Turkstream, and delay of certification to Nord Stream 2, could cause an energy crisis in Europe.
Already this winter, energy prices in Europe have sky-rocketed due to low gas storage levels, high European Union carbon prices, fewer liquefied natural gas tanker deliveries and lower than normal Russian gas supplies and infrastructure outages.
Further energy import disruptions would be problematic for the continent, which has become increasingly reliant on outside energy sources despite a domestic focus on developing green energy alternatives. In 2019, the last year complete data was available, foreign imports provided 60 percent of the European Union's energy demands.
The EU is most reliant on Russia as a source of natural gas, which accounts for a continuously increasing part of the block's energy mix as the continent moves away from coal.
Moreover, Russia dominates the EU’s gas market, accounting for around 38% of total supply, with its abundant gas reserves, the proximity of its oilfields and an enormous existing pipeline network,. Norway, the bloc’s next largest source of natural gas, accounts for half that, just 19% of the market.
With the new Nord Stream 2 pipeline scheduled to double the direct supply of natural gas from Russia to Germany under the Baltic Sea, Europe and Russia's interdependence is only destined to grow. That is, unless the Ukraine conflict jeopardizes Nord Stream 2's regulatory approval process, a potent threat that might derail the project entirely, as the US and Europe have wielded during negotiations.
During the 2006 and 2009 gas crises, conflicts between Russia and Ukraine, mostly over pricing, resulted in gas supplies being interrupted to Ukraine, with rapid consequences reverberating throughout Europe.
Over the last 20 years, though, Russia has built pipelines to circumnavigate Ukraine and protect its oil and gas supply routes from regional issues there.
According to The Center for Strategic and International Studies (CSIS), completely closing down Ukraine would only have a few countries directly affected. Only Slovakia, Austria, and Italy would be directly affected, as would Ukraine, which no longer buys gas directly from Russia but through a gas buy-back system.
However, if shutting off the gas entirely isn’t as likely, European politicians and energy markets analysts have accused Russia of intentionally delaying supplies across some pipeline networks in order to put pressure on Germany and the EU to complete the Nord Stream 2 project.
Gas imports from Ukrainian pipelines have fallen below 5-year lows, according to data from Bruegel, a European think tank.
The Yamal pipeline, which transports oil from Russia, is now only carrying a fraction of its regular capacity. The pipeline has been flowing in reverse, from west to east, since December 21, transporting German gas reserves to Poland. Russian oil company Gazprom had rejected to order any transit capacity across the route in February, while keeping Nord Stream 1 flowing at near-maximum capacity rates.
Russia denies it is disrupting gas flows to Europe and says it is fulfilling all its contractual obligations regarding gas exports. Although, EU politicians still blame Gazprom for stoking the gas price problem, claiming that “it has not responded to surging demand by offering extra volumes to spot market buyers like other suppliers have.”
The reduced flow through the Yamal pipeline has put major upward pressure on European gas prices.
That volatility in Europe spread across global markets after the U.S. warned last week that a Russian invasion of Ukraine could come “any day”.
Furthermore, due to increased demand and low storage levels in Europe, benchmark natural gas prices have risen dramatically, but the United States has been mostly unaffected.
According to the Atlantic Council, if the crisis escalates, Russia could directly attack European gas through covert physical or cyber-attacks against Ukrainian and European energy infrastructure. Damage to a Ukrainian pipeline could also apply more pressure on Europe to fast-track Nord Stream 2’s approval.
With Europe and Russia’s energy markets locked tightly together, Europe’s main threat to counteract Russia’s actions in Ukraine is a combination of sanctions and delaying or stopping altogether the Nord Stream 2 certification process. Europe is Russia’s principal export market for gas, with Germany, Italy and France taking in nearly 36% of all Russian gas exports in 2020.
As a result, the continent has tremendous demand-side leverage. The German government has also hinted that if Russia invades Ukraine under intense pressure from the US and other Western allies, sanctions on Nord Stream 2 may be considered.
Still, analysts warn that “European sanctions would cut both ways and could seriously squeeze Europe where gas storage levels are already very low for winter.”
"It would be difficult for Europe to stomach sanctions which effectively cut off Russian gas supply, or at least a large portion of these flows," said analysts at ING.
Both Europe and Russia have taken steps to diversify their energy markets, which would help both better weather conflicts between them.
Russia has also agreed a 30-year contract to supply gas to China through a new pipeline and will settle the new gas sales in euros, bolstering an energy alliance with Beijing amid Moscow's strained ties with the West over Ukraine and other issues.
Gas may come from the fields off Russia’s Sakhalin, including the Yuzhno-Kirinskoye, which Washington put under sanctions in 2015 for Moscow's role in the crisis in Ukraine.
But the new deal won’t divert gas from Russia’s western European pipeline network into China, and according to the Atlantic Council, the sales from this deal will be a fraction of those from the European market.
In the short term, Europe has been able to pick up some of the shortage of Russian gas with a boost of liquefied natural gas (LNG) imports.
But there is little spare capacity in the LNG supply chain, and increased supplies to Europe will result in reduced supplies in other regions.