The West Has Gazprom in its Crosshairs (Part I)

by | published June 10th, 2014

Almost 45 years ago I signed an agreement with Uncle Sam…

The government essentially said it understood my soul may belong to God, but the rest of the anatomy was going to be theirs until further notice.

That was what brought me into a sometimes ill-defined segment of public service. It’s a job you never really have the option of leaving – at least easily and preferably while still drawing a breath.

But over time age takes its toll. That meant I finally got to the point where I could use the memorable Danny Glover line from the Lethal Weapon movies: “I’m too old for this sh – t.”

Eventually, I was shot at less often (as I write this, not since 2003).

But my role in the Great Game was hardly over, because …

Shazam! I was transformed into an operational consultant and under that rubric, likely to be drawn into just about anything.

Like the current unraveling clash of wills between familiar foes…

My Latest Brush with the Great Game

The most recent geopolitical chess game began with an uprising against one government in Kiev. It then morphed into a statement of Russian nationalism in Crimea, followed by the onslaught of a situation that threatens to descend into a Ukrainian civil war.

Some of the pieces and much of the strategy in this situation have felt very reminiscent of the Cold War.

That, of course, led a number of pundits who had no experience in the contest or who were not of political age at the time to say much that has been both useless and less than serving.

As for me, I found myself all too easily assuming a familiar mantle of a previous age. The Cold War was an unnerving time. Yet at least you got up in the morning knowing what your purpose was going to be that day. The cause and the enemy were well defined.

You also recognized there were folks on the other side doing the same thing. An uneasy balance ensued, making the exercise strangely predictable.

But being brought “back into play” always means that I become aware of – or have a hand in fashioning – aspects of policy development exercised by others.

Of course, this exercise comes with a certain prime directive. Appropriately enough, it is the same one I occasionally must practice when writing OEI.

It’s simple. If I have access to “inside information” on what a company is about to do in the energy sphere, I must wait until it appears in public – any report, newspaper article, or blog post will do. Once that happens, I’m free to talk about it and can fill you in on some of the details.

The same holds true for what may or may not happen shortly in foreign policy. Guys like me need to sit on information and button it until there is an initial release via other means.

That’s exactly what happened yesterday. So here’s some of what I can tell you now…

A Major Attack Against Gazprom is Now Underway

The Bulgarian government has acceded to considerable pressure from Washington and Brussels (the seat of the European Union) to suspend building the South Stream pipeline. From the initial public statements it is clear that officials there are not completely in agreement. Some still hold out hopes that the project can be renewed.

The object is to hit Russian foreign policy where it is weakest, the juncture at which it is most dependent upon the economic actions of others. Moscow cannot sustain its central budget without an expansion of natural gas exports – its largest single component.

And that means, as in all matters relating to Russian energy policy, the West’s target is Gazprom (OTC:OGZPY).

This is Russia’s dominant corporation and the largest natural gas company on the face of the earth. It is always a main cog in national foreign policy. It does not speak on behalf of a Board of Directors, but for the Kremlin itself.

Gazprom is a behemoth, but not a very well-run one. It is bloated, containing far too many unproductive assets having little to do with the gas business (newspapers, a TV station, sports arenas, a food canning enterprise, textiles, an airline, chemicals, timber rights, and on and on).

Even at home, Gazprom has major problems. It has an outmoded domestic infrastructure extending from depleting field drilling, through the largest pipeline network in the world (where there are thousands of leaks daily), to processing and distribution.

It oversees rapidly declining traditional gas fields and has eschewed developing shale gas (but has been moving on another unconventional source, coal bed methane). It also has an increasing problem with budgeting for the huge expenses of moving into Eastern Siberia, above the Arctic Circle, and out onto the continental shelf (which Moscow argues goes all the way to the North Pole) to offset what by 2020 is probably going to be an 8% annual decline in production at maturing fields.

For both politically astute CEO Alexei Miller and his real boss, Russian President Vladimir Putin, expanding Gazprom and balancing the budget can only happen with increased outside sales of gas.

Vladimir Putin’s Dilemma

The most important element here is simple: Without increasing the annual sale of gas abroad, both Gazprom and the Kremlin are in deep trouble.

And while the recent accord with China has been ballyhooed by Russian media (and officials) as a major step in that direction, two things need to fall into place. Otherwise, the agreement will more likely turn into a decades-long millstone around Gazprom’s neck, rather than a lifeline.

First, both parties must conclude essential elements of pricing and volume, take or pay provisions (requiring the end user accept a certain amount each month or pay as if it has), and the basket of crude oil and oil products used to determine pricing adjustments. I recently addressed these issues in this article: The Achilles Heel of the Russian-Chinese Gas Deal

Second, the Chinese contract is not a breakthrough for the Russians unless it leads to a significant increase in overall exports. That, in turn, cannot take place unless Gazprom continues to improve its market position where it currently sells most of its exports.


There, the Ukrainian crisis and Russia’s continuing refusal to follow the provisions of the Energy Charter Treaty (ECT) and the Transport Protocol (TP) have combined to create a major problem for Gazprom.

ECT requires that all signatory nations separate their domestic companies producing gas from those transporting it. Further, TP obliges that each nation make its domestic gas pipeline system open to outside third parties. Despite having signed the treaty, Russia flatly refuses to either break up Gazprom or allow outside access to its pipelines (administered on behalf of the state by Gazprom on a monopoly basis).

Bulgaria is a member of the EU and Brussels (with some very h3 U.S. backing) has played its ECT hand in compelling Sofia to suspend building its South Stream pipeline interconnection. That onshore segment just happens to be the most critical piece in the entire project.

In all, South Stream is the most expensive pipeline ever conceived. Depending on whose figures you accept, it will cost almost $30 billion,or is now way over that total (my own view is it is well above $32 billion and counting). It is designed to move Russian gas beneath the Black Sea into Southeastern Europe and beyond.

Unless it is built, years of work and significant capital resources will have been wasted. Russia will not be able to bypass Ukrainian throughput to Europe (where the failure of Kiev and Moscow to agree on payment of Ukrainian energy debts again raises the prospect of the gas being turned off to Western Europe), and Gazprom will lose its grip on the European market.

In this high-stakes collision, Gazprom’s lack of leverage is showing.

There are now two other countries about to provide additional roadblocks to South Stream, an existing pipeline network into Northern Germany is coming under pressure, and additional sourcing is moving into place. All of this is descending rapidly on Gazprom.

How all of this could unwind a bold Russian initiative, create the risk of a significant budgetary constriction in Moscow, and undermine an entire pipeline strategy, is where we are going in the next issue of OEI. What’s at stake here is about as serious as it gets.

But I’ll give you a little hint upfront…

It has to do with a certain piece of perceptive Italian writing from some four centuries ago. It just might provide us with the way to stop energy from becoming the catalyst for an even bigger global crisis.

History is often like that.

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  1. June 10th, 2014 at 14:27 | #1

    Dr. Moors,
    Thank you for all your experience and expertise you share with us. It is valued greatly. Question: There are at least 1/2 dozen number of experienced financial men who are stating the U.S. dollar will soon not be the reserve currency. In your opinion, will that fact cause as great or greater financial crisis in the U.S. as the one that was caused by the housing mortgage debacle?
    Jerry Saylor

  2. JAB
    June 10th, 2014 at 15:00 | #2

    I just read an internet story about this, which you probably read also. But it said that it is Romania which is suspending construction of Gazprom’s pipeline, not Bulgaria. They are next to each other, but very distinct. Or did both countries suspend construction?
    OTC doesn’t have much volume. Is there an exchange anywhere that carries GZP?
    As for Ukraine, I hope Russia pulls back out of Donetsk. I have too many friends there, and they’re not happy with Russian thug separatists. Why NATO didn’t accept Ukraine when it could is a mystery hidden behind an iron curtain.

  3. June 10th, 2014 at 17:30 | #3

    Why is Western Europe so dependent on Russian gas. Germany, Balgium, the UK have vast amounts of coal. Surely even though coal is a dirty word, gas extracted from the known areas and reserves would go a long way in providing energy supply.

  4. June 10th, 2014 at 19:27 | #4

    Keep it up!!

  5. Blaine
    June 10th, 2014 at 19:42 | #5

    The U.S. tries to make Russia an enemy and keep it that way. It is hard work to negotiate and make and keep friends.
    The U.S. is not even trying,,, the perception is Russia is the enemy when in reality the Ukraine is a failed state and will join with any one to save their necks.
    They tried to work with NATO and NATO refused, then Russia was forced to get involved.
    Now Russia is making nice with China which is really upsetting the U.S. and Europe, but the U.S. created the situation.
    NATO sitting with forces in Poland, what a joke, Russia could blow the to smithereens. The U.S. cannot win a war on someone else’s turf.

    It’s hard work, start working with Russia, start talking. They are people like you and I wanting to make a living.
    The Politicians are screwing up International Trade.

  6. Owen Kinnan
    June 10th, 2014 at 19:51 | #6

    It really doesn’t matter. Gazprom and Russia will win this one. Europe has nowhere else to go for oil and gas unless they pay through the nose. Regarding Gazprom and the pipelines through the Ukraine, Russia does have leverage. Its called the Russian military. Neither the U.S. or NATO can stand against the might of the Russian military forces financed by revenues from Gazprom. This will play out in Russia’s favor and there is nothing the U.S. can do to stop it.

  7. yngso
    June 11th, 2014 at 10:02 | #7

    The problem nobody´s suggested viable solutions to is the lack of alternatives. Yes, there´s the North Sea, North Africa and the Middle East, but can they supply the amount of natgas to Europe that now comes from Russia?
    Sorry, everybody, Jeff and I are off subject here: To me it seems that the IMF is acting more and more like a World Central Bank. If that´s correct, maybe it can help the USD to have something like a “soft landing”?

  8. Larry K.
    June 11th, 2014 at 23:34 | #8

    I just rad where Putin wants to stop using the US Dollar and switch to another currency to do petrobusiness. How do you think that will affect things?

  9. yngso
    June 12th, 2014 at 17:38 | #9

    Sorry again, it was Jerry I referred to above.
    Please let me make just one more comment: The internet revolution has made us all so much smarter and well informed, so we don´t need to go back to the Cold War. Both Putin and everyone else who are supposedly our leaders need to understand that. More and more people are now beginning to understand that cooperation is better than competition.

  10. June 30th, 2014 at 01:54 | #10

    What many seem to have missed in the geopolitical discussion is the dollar’s standing on international trade.

    Since August 15th, 1971, the dollar has been freely floated on exchanges, but is and was manipulated. The deal with the Saudis to sell oil only in dollars in 1973, in return for protection, forced OPEC to accept only dollars, and then the commodity exchanges followed suit, largely on the back of the supposed 8,000+ tons of Gold sitting in the Fed’s coffers.
    Despite it being stated in 1974, by a VERY reliable source, that all the gold had gone. No audit has been allowed, so people assumed it was still there.
    That allowed the US to spend with gay abandon on its military, but the economy in the last ten years has been a mess. Imports of oil and gas had to be offset by exports of something to stop the dollar falling which would have driven up energy prices and killed off any chance of recovery.

    So the Fed’s allies in the bullion banks have been leasing gold to the markets to keep the gold & silver price in check, while simultaneously keeping inflation in check. The US have been selling military kit to the middle east to pay for it, and the Russians and Chinese finally got wind of this probably circa 2004/5 and have been buying up gold and silver increasingly ever since. The Chinese in recent years imported 2,000 tonnes p.a., by various measures, and their current gold holdings now exceed those of the U.S., though noone knows by exactly how much.
    Once they release those figures the dollar will be toast, and any oil imports will cost Americans a lot more, bringing about a financial mess. That’s why they went into the middle east to stay connected to energy resources there, allowing US majors to get there first. The high oil price also made it viable to drill shale oil and gas and make the US almost totally independent for energy.
    The Romanian link and the pipeline which they wanted to rebuild through KSA, Jordan, Iraq and Syria meant Assad had to go, hence the flow of funds to Syrian militias. BUT the Iranians signed a deal first from the same gas field under the gulf. When/if that gets built Europe won’t need Russian gas. Israel too has a huge off-shore gas field due to come online in the next few years giving them some measure of energy and fiscal security.

    If they don’t get built, unrest in Ukraine/middle east could push oil to $150-250bbl, and then ihyper-nflation would be a given – or stagflation.

    Interest rates will go through the roof and the fed can say – It wasn’t us, but their $17triilion dollars will attract quite high rates and they will do quite nicely out of it – thank you very much. Oil and gas will shoot up in price, and Russia will make a killing in the energy markets, so cutting off their route to market is one way of making sure they can’t match the Fed/US militarily.

    Russia’s deal with the Chinese will scupper that. This has been coming for a long time, and the bear and the panda will stuff the eagle in the next global conflict. A lot of people are gonna get seriously burnt – both figuratively and literally.

    High energy costs will drive up food and other costs, which will hit everyone on the planet, cause a worldwide slowdown and cause resource wars to spring up everywhere. Those holding PMs will suffer least, but it ain’t gonna be pretty… And it is baked in the cake.

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