September 19, 2012

Europe Takes On Gazprom at Last, Now Must Hang Tough

The European Union’s antitrust investigation of OAO Gazprom (OGZD), announced this month, is a landmark case. It shows a new EU resolve to crack down on rent- seeking by Russia’s natural-gas behemoth and, at long last, to heed the complaints of the bloc’s smaller ex-Soviet members.

18.09.2012, Matthew Bryza
The European Union’s antitrust investigation of OAO Gazprom (OGZD), announced this month, is a landmark case. It shows a new EU resolve to crack down on rent- seeking by Russia’s natural-gas behemoth and, at long last, to heed the complaints of the bloc’s smaller ex-Soviet members.
The European Commission accuses Gazprom of stifling competition in European markets by restricting the interstate trading of natural gas, limiting the diversification of gas supplies by blocking rival gas-pipeline projects, and pegging the price of natural gas to oil prices in long-term contracts.
These practices reflect Gazprom’s decades-old strategy of seeking a monopoly, rather than competing under the free-market rules that the EU has been developing as it tries to create a single, 27-nation energy market. Gazprom (OGZD)’s business model has long been to buy gas cheap from Central Asian producers that have no alternative route to reach Europe. Gazprom then moves the gas through Russian pipelines and sells it to EU energy companies at twice or three times the purchase price.
Such monopolistic arrangements have generated enormous revenue for Gazprom and the Russian state, some of whose top officials also sit on the boards of large Russian energy companies. The monopoly profits that result are being earned at the expense of European consumers and Central Asian producers.
The EU has long understood these market abuses and said it wanted to right them. But because Russian leaders were able to divide the Europeans by offering special deals to larger buyers such as Germany, little was done.
Diversifying Supplies
Now the EU is supporting several new options to diversify its gas supplies. These include building more liquefied-natural- gas terminals in order to open EU markets to more suppliers and a network of new gas pipelines from the Caspian basin to Europe, via Turkey. The EU’s Sept. 4 antitrust case against Gazprom is another element in this broader quest to diversify Europe’s supplies of natural gas.
The decision to confront Gazprom contrasts sharply with the EU’s approach when Gerhard Schroeder was the German chancellor. In October 2005, Schroeder threw his country’s full support behind Gazprom’s Nord Stream pipeline, which now bypasses the Baltic nations and Poland, thus weakening their hands in negotiations with the company and the Russian state. He joined Nord Stream’s board after leaving office.
Radek Sikorski, the Polish defense minister at the time, dubbed Nord Stream the “Molotov-Ribbentrop pipeline,” reflecting the deep sense of betrayal that was felt by millions of Europeans from Poland to Estonia. Sikorski was referring to the secret 1939 nonaggression pact that allowed Adolf Hitler to invade Poland and carved up Eastern Europe between the Soviet Union and Nazi Germany.
The EU’s biggest players appear finally to have recognized that by standing together and resisting Gazprom’s monopolistic quest to divide and conquer their smaller allies, the bloc has sufficient leverage to bring meaning to its well-worn statement that Gazprom needs Europe as much as Europe needs Gazprom.
Europe and Gazprom really do need each other. But Europe does not need the type of Gazprom that exists today. Rather, the EU needs a reliable commercial partner that may drive a hard bargain, but operates according to market principles. So the EU’s goal is not, and should not be, to punish Gazprom, but to use the force of competition to elicit market-based behavior.
Restraining Monopolies
Predictably, Russian leaders have cried foul. They say the EU is singling out Gazprom in a fit of anti-Russian prejudice. They should remember that the EU not long ago took on another foreign behemoth, Redmond, Washington-based Microsoft Corp. (MSFT), to end what it considered monopolistic behavior. Equally, in 1911 the U.S. government broke Standard Oil Co. into several competing companies, some of which still exist as Exxon Mobil Corp. (XOM), Chevron Corp. (CVX) and ConocoPhillips. (COP)
Today, the EU isn’t calling for Gazprom’s breakup. And even if it were, Russia’s leaders could take comfort in the success of the U.S. oil companies that emerged from Standard Oil. If the European Commission can keep its nerve and compel Gazprom to follow EU antitrust laws, then Gazprom would be forced to hone its competitive edge rather than rely on rent-seeking to pad its balance sheet.
The result would be a stronger, more reliable and cheaper natural-gas supplier for consumers, in Europe and Russia alike. Gazprom would gradually have to improve its delivery of services and open up its pipelines for independent Russian natural-gas companies to use. Finally, a Gazprom that operates according to market, rather than monopolistic, forces is less likely to be used by the Kremlin as a geopolitical tool. The company played directly into such fears in its statement after the EU’s announcement on the antitrust investigation. Gazprom said it was “a business entity empowered, according to the legislation of the Russian Federation, with special social functions and the status of a strategic organization, administered by the government.” President Vladimir Putin followed a few days later with a decree that forbids Gazprom, or any other Russian state- owned company, from providing information to investigators without the state’s permission.
In the past, such Russian tactics bullied Europe’s largest countries into ignoring their smaller Eastern neighbors’ pleas for support. In 2006, for example, when Lithuania was planning to sell its sole oil refinery to Poland’s PKN Orlen SA, rather than to a Russian company, the Russian pipeline supplying crude to the plant allegedly suffered an accident that shut it down. The sale went through and the pipeline never reopened. Lithuania now imports oil for the refinery by sea.
Lithuania’s Example
Lithuania appears to have triggered the European Commission’s decision to act, after the Baltic nation of about 3.2 million people carried out EU recommendations to “unbundle” its domestic natural-gas and electricity markets, which would prohibit energy producers from also owning transmission or distribution networks. That affected Gazprom, and the company responded by threatening, and then imposing, higher natural-gas prices on Lithuania.
The threats failed, and Gazprom since came to a deal on unbundling its Lithuania assets that will come into effect in 2014. The commission and the EU’s bigger members should take note and stick with the antitrust case. It is the best route to a relationship with a Gazprom that is no longer able to divide and conquer within European energy markets.
(Matthew Bryza is a former U.S. ambassador to Azerbaijan, director of the International Center for Defense Studies in Tallinn, Estonia, and a nonresident senior fellow of the Atlantic Council in Washington. The opinions expressed are his own.)
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