Editor’s note: Don’t miss our comprehensive guide to Russia’s war against Ukraine.
Russia’s invasion of Ukraine has brought a tidal wave of sanctions from the United States, United Kingdom, and European Union. Russia’s stock market is closed, high-value foreign assets are being seized, and Western states have severed financial links between Moscow and banks around the world. Russia is on its way toward becoming an international pariah. The big question facing Western policymakers is whether to extend those measures to Russia’s oil and gas exports.
Even without sanctions, the war has had an immediate impact on Russia’s energy relationship with Europe, its largest and most important market. Within a day of Russia’s attack on Ukraine, German Chancellor Olaf Scholz suspended the authorization of Nord Stream 2, a gas pipeline connecting Russia to Germany via the Baltic Sea. The company funding the pipeline has filed for bankruptcy. Western companies have divested from their operations in Russia. Germany has signaled that it is prepared to undertake whatever measures are necessary to break its decades-long energy relationship with Russia. The International Energy Agency released a 10-point plan on how Europe could turn toward alternative sources of energy.
Should European states follow through on these pledges, the transition could have profound effects on European energy security and the shape of the global energy economy. Russia will lose its largest customer and while it will likely find new outlets for its energy products, the costs will be considerable. Cutting off the flow of Russian oil and gas might accelerate the European Union’s planned transition away from fossil fuels and toward renewable sources of energy, though in the near term alternative sources of natural gas will benefit from the increase in European demand. There are nevertheless considerable infrastructural and material constraints on this planned transition.
Where the Dependence Began
Russia has historically served as a major source of energy for Europe. During the 1960s, rising output from fields in the Urals and Siberia turned the Soviet Union into a major oil exporter. Soviet oil found markets in Europe, and rising demand strengthened the relationship after the collapse of the Soviet Union in 1991. Falling European natural gas output, a combination of depletion and deliberate initiatives to phase out domestic production, contributed to the growing dependence on Russian imports, which were geographically convenient, cheap, and plentiful.
It is crucial to distinguish between oil and natural gas, both as products within Europe’s total energy makeup and in terms of their transportation and commercial attributes. Russian crude oil is shipped via tanker and sold in markets all over the world. European annual oil consumption varies, with Germany and France consuming 86 million and 59 million tons of oil equivalent (Mtoe, a standard measure of consumption) respectively, out of total E.U. consumption in 2020 of 384 Mtoe, a historically low figure owing to the effects of the novel coronavirus. Total imports of crude oil equaled 440 Mtoe — much of the oil imported to the European Union is refined into products and then exported — and Russian oil accounted for more than 25 percent, at 113 Mtoe. The European Union is more dependent on imports for oil (69.8 percent of total E.U. energy imports in 2021) than for natural gas (19.3 percent) owing to the presence of large but dwindling gas fields in the North Sea and elsewhere.
While the flow of Russian oil to Europe could potentially be disrupted and tanker shipments replaced by crude from a different source, natural gas links between Russia and E.U. economies are more fixed. Natural gas from fields in the Ural Mountains and Western Siberia is transported through pipelines to markets in Central and Eastern Europe. Gazprom, the major Russian gas company, sells on long-term contracts to European firms. These sales make up 72 percent of total Russian natural gas exports and 43 percent of total E.U. consumption. Some states such as Germany, Poland, and the Czech Republic depend on Russian supplies to meet their energy needs. Other E.U. members have chosen different policies: Spain, for instance, has constructed terminals to import liquified natural gas supplied from Qatar and other sources. Spain is currently the European Union’s largest importer of liquified natural gas.
Discomfort with dependence on Russian energy, particularly among E.U. member states bordering Russia, together with member states’ desire to transition to cleaner sources of power, have encouraged efforts to reduce dependency. E.U. member states have made a considerable effort to expand renewable energy production. The number of liquified natural gas terminals has increased, with 16 major terminals operating in 2021. However, Germany’s decision to phase out nuclear power and coal has resulted in a shift toward accepting larger amounts of Russian natural gas to fill the gap, despite protests from Poland and other members that this posed a threat to E.U. energy security. The German government cooperated with Russia to build the $11 billion Nord Stream 2 pipeline, which promised to deliver 55 billion cubic meters (bcm) of gas to Germany every year, equaling three-quarters of current German consumption.
Overall Europe remains dependent on imported energy. The dependency rate (i.e., the degree to which member states rely on imported energy) increased from 56 percent in 2000 to 60.5 percent in 2019, though it fell to 57.5 percent during 2020 due to the effects of the COVID-19 pandemic. Imports from pipelines or liquified natural gas met 80 percent of E.U. natural gas needs in 2020, and 41 percent of those imports came from Russia.
Is a Rapid Transition in the Offing?
Russia’s invasion of Ukraine has prompted a dramatic reconsideration of Europe’s energy security. As Russia falls under heavy sanctions and foreign companies like BP and Shell divest themselves of their shares in Russian energy companies, the likelihood of an eventual break in the energy relationship tying the European Union and Russia together has increased.
A sudden shutdown in the flow of oil or gas is possible. German analysis concluded that European reserves would be sufficient to compensate for several weeks. Other analyses suggest that Europe could get by with cuts in consumption if it lost temporary access to Russian supplies moving through Ukraine. The International Energy Agency concludes that Europe could reduce consumption of Russian natural gas by one-third by the end of 2023 by using alternative sources and reducing overall gas consumption.
Even if a shutdown is averted in the short term, however, Russia stands to lose access to Europe’s energy market if the European Union follows through on its threat to transition away from dependence on Russian energy. The implications for the global energy economy could be considerable.
Should E.U. companies decline to purchase Russian oil, they will have to make up their supply from alternative sources in the meantime. Global oil markets, as noted, are fluid and available supply exists that could meet E.U. demand, particularly if the Organization of the Petroleum Exporting Countries decides to accelerate production increases. Russia will likely find new customers for its crude, though it will have to offer steep discounts to entice customers wary of potentially falling foul of sanctions. In the wake of its invasion of Ukraine, Russia began selling crude at a $11.60/barrel markdown.
Natural gas poses a more complicated problem. First, a commitment to ending dependence on Russian natural gas will encourage E.U. members to increase investment in renewable energy. Member states have individual renewable energy targets and the renewable share of total energy consumption has increased from 9.6 percent in 2004 to 19.7 percent in 2019. The European Union is currently committed to a 32 percent share by 2030, cutting greenhouse gas emissions by at least 55 percent. But this target may be modified upward to encourage a more rapid transition away from dependence on Russia.
There are barriers to a rapid increase in renewable output. Europe installed a record amount of wind power in 2021, which met 15 percent of electricity demand in the European Union and United Kingdom. However, the rate of installation will already have to increase to meet the European Union’s climate and energy targets. Last year proved that wind is not always a reliable source, requiring additional capacity from gas, nuclear, or coal-powered plants in the event that wind turbines can’t meet demand. It is possible that some E.U. states such as Germany may re-start coal plants to make up for the loss of Russian gas in the short term, just as coal helped make up for a decline in wind power in 2021. Even if this crisis encourages E.U. members to accelerate their energy transition plans, in the short term emissions in Europe could actually increase.
The Liquefied Natural Gas Question
Second, the European Union will need to replace Russian natural gas from alternative sources. There are two effective means of delivering natural gas: via pipeline or in cargoes of liquified natural gas, which must be processed through re-gasification terminals. Both require considerable capital investment, though liquified natural gas allows for greater flexibility, permitting E.U. member states to meet their needs from a variety of different sources at any given time.
Constructing new pipelines to take the place of the Russian pipeline network would be time-consuming and capital-intensive. Deposits in the Black Sea and Eastern Mediterranean could potentially feed European demand. Though these fields are large, they are also near major consumer markets and thus have limited export capacity. The planned EastMed pipeline connecting Mediterranean gas to Europe would cost $6 billion, take three to four years to complete, and deliver 10 bcm per year, less than one-fifth of Nord Stream 2. Construction of this line has yet to commence, owing in part to opposition from the United States.
Given the obstacles facing new pipelines, liquified natural gas seems like the more attractive option for meeting European gas demand should Russian supplies be lost. The size of the global liquified natural gas market has grown dramatically since 2010, when a boom in U.S. natural gas production led to the development of an American liquified natural gas export industry for the first time in recent memory. Apart from the United States, Qatar and Iran possess large natural gas reserves. Supplies of U.S. liquified natural gas to Europe surged in 2019 and made up 50 percent of total deliveries in January 2022, as American cargoes were diverted to Europe to take advantage of high prices. While Qatar has little spare capacity, Iran could potentially develop an increased liquified natural gas export capacity, should a new nuclear deal free it from American-imposed sanctions.
Optimistic predictions of U.S. liquified natural gas replacing Russia in the short term understate the size of the problem, as the market has tightened considerably since mid-2021. Before 2021 European states were underutilizing their capacity to import liquified natural gas, averaging only 25 percent of their total regasification capacity in 2015. This increased to 60 percent in 2021 as high gas spot prices, declining shipments from Russia, and weaker-than-expected wind power boosted demand for liquified natural gas imports. By early 2022, E.U. import capacity was fully maximized, suggesting that further infrastructure will be needed to accept more liquified natural gas in the future. While Europe has 30 liquified natural gas import terminals, one-third are located on the Iberian Peninsula, and while new terminals are planned in Germany and elsewhere, they will take several years to become fully operational. Using liquified natural gas to fill a sudden gap left by the absence of piped-in Russian gas would be difficult and may require cuts to total E.U. gas consumption, particularly in markets that are far from existing terminals.
Russia Left Out in the Cold
Third, Russia will be seriously impacted by the loss of its largest customer. Europe accounts for over 70 percent of Russian natural gas exports, nearly all of which are delivered via pipeline. Gas and oil exports make up roughly 40 percent of Russian revenues, though their export share has fallen somewhat and Russia has built a considerable cash reserve to weather falls in price or production interruptions. That reserve will become much harder to use now that Russia faces crippling sanctions from the United States, European Union, and United Kingdom.
It is likely that Moscow will be able to find customers for its products in time. By offering steep discounts, Russia can keep its industry in operation, avoiding a costly drawdown. China is a major customer for Russian oil, though it consumes only 5 percent of Russian gas exports. Some Russian firms have already encountered problems offering tenders for their crude, even with heavy discounts, suggesting that customers are growing wary of accepting Russian crude and may begin to look for alternatives. This bodes ill for Russia, even if direct sanctions on oil or gas exports do not materialize: Private companies and state firms may “self-sanction” and boycott Russian products independently.
As Europe needs more infrastructure to meet natural gas needs, Russia will also have to invest heavily in new infrastructure to get its gas to market. Russia will need to invest in liquified natural gas infrastructure or grow its pipeline infrastructure to expand to Eastern markets, a project that is already underway. Russia’s interest in growing its market share in China is sure to increase if it faces difficulty maintaining access to Europe. While Russia has gained from the current period of high oil and gas prices, much of this windfall might be lost investing in new infrastructure if access to Europe is lost over the long term.
For now, the European Union’s proposed energy transition remains inchoate. Vows to end dependence on Russia were common in the wake of Putin’s 2014 annexation of Crimea. It is possible that E.U. policy now will be similarly contradictory. Should the European Union carry out its plans, however, the global energy economy, European energy security, and the future security and economic viability of the Russian petro-state will all be significantly impacted. E.U. consumers will face prolonged high prices as gas supplies struggle to fill the void left by Russia. Coal plants may be reactivated to help fill the gap, potentially delaying the European Union’s transition toward renewable energy. Russia’s competitors in the export field — particularly companies in the United States — will benefit from new markets in Europe. The global liquified natural gas market will continue its rapid expansion.
Russia, meanwhile, will face isolation as it loses one of its oldest and most lucrative economic relationships. This will place immense strain on the Russian economy and potentially push it toward a closer relationship with China, the only other natural customer for its energy resources.
Gregory Brew is a historian of oil, modern Iran, and the Cold War. He is a Kissinger Visiting Fellow at the Jackson Institute for Global Affairs at Yale University.
Image: TASS (Photo by Vitaly Nevar)