Cyprus Mail

Why did Russia cancel the South Stream project?

Russia's President Vladimir Putin shakes hands with his Turkish counterpart Tayyip Erdogan during a meeting at the Presidential Palace in Ankara

By Stelios Papadopoulos

RUSSIA scrapped the South Stream pipeline project to supply gas to southern Europe without crossing Ukraine and instead named Turkey as its preferred partner for an alternative pipeline, with a promise of hefty discounts. The EU, at loggerheads with Moscow over Ukraine, and keen to reduce its energy dependence on Russia, had objected to the 40 billion dollar South Stream pipeline, which was to enter the EU via Bulgaria, on competition grounds.

The proposed undersea pipeline to Turkey, with an annual capacity of 63 billion cubic meters, more than four times Turkey’s annual purchases from Russia, would face no such problems. Russia offered to combine it with a gas hub at the EU’s south-eastern edge, the Turkish-Greek border, to supply southern Europe. But the plan remains at an early stage.

Russian energy Minister Alexander Novak said that ‘’energy ministers and companies (on both sides) were ordered to look into these proposals in detail… It is hard to assess the costs, financial mechanisms, terms of fulfilment for now.’’

Why did Russia decide to cancel South Stream? At first sight, the project’s cancellation is not that unexpected since the cancellation scenario was known since June. Eurasia Group stated in August that the project will remain in limbo for years as Russia continues to foment armed conflict in eastern Ukraine and the EU retaliates with bans. The Group’s statements followed Bulgaria’s cancellation of the project in June-an enthusiastic supporter of South Stream-after Europe offered the Nation’s suddenly collapsing banking system a lifeline. Bulgarian Energy Minister Vasili Shtonov ordered the country’s Energy Holding to halt any actions in regards to the project, as it does not meet the Commission’s competition requirements.

But why did Russia cancel the project four months later? For an answer to this question one has to look at OPEC’s recent November 27 meeting. On that day, OPEC decided to keep production stable instead of cutting it to halt the downfall of oil prices. OPEC’s final decision however became clear earlier during the November 25 preliminary talks.

The November 25 talks, just like the final ones on November 27, yielded no deal to cut output. After the talks Rosneft Chairman Igor Sechin (Rosneft is Russia’s biggest oil company) had this to say, according to Reuters:  “The current price of oil is not critical for us. We can postpone the realization of some capital-intensive projects.” On December 1 Russia decided to cancel the South Stream project following Putin’s visit to Turkey. This does not naturally mean that Russia’s decision to cancel South Stream was taken six days later. But given the fact that gas contracts are indexed to oil prices,  it is very unlikely that falling oil prices did not play a role in Russia’s decision.

The above explanation is even more likely when the wider context of the oil and gas market is taken into account. According to the Norwegian consultancy Rystad energy, plunging prices could force oil and gas companies around the world to halt exploration projects worth more than $150 billion (121.2 billion Euros) next year. “The [exploration and production] companies have been under a large pressure the last years due to galloping costs, and the result has been delayed and cancelled projects, reducing their investment commitments,” said Rystad in a statement. Consequently, the motive behind the announcement of the Turkish pipeline may be more political than economic.

First of all the Turkish pipeline is simply a proposal. The memorandum that was signed on December 1 is not legally binding while costs and financing mechanisms are yet to be determined. Furthermore, Gazprom wouldn’t be free of negotiations with a transit country, a goal that the building of South Stream intended to achieve by bypassing Ukraine. The announcement of the Turkish pipeline however, has fuelled existing divisions between countries such as Bulgaria who supported the project and those which did not. Such divisions hinder in turn any agreement over new sanctions, which is the last thing that Russia’s contracting economy needs at the moment. Putin’s surprise announcement therefore helps prevent the EU from using the current oil deflation from hitting Russia’s economy even harder.

Yet the Turkish deal does seem to have an economic rationale behind it. Judging from the Chinese and recent Indian deals, the oil deflation and the Turkish deal itself, Russia seems to want to maintain market share through low prices in new markets. But does this mean that Russia has abandoned Europe? The answer is negative. The Asian and Turkish deals are for the medium and long-term and do not therefore offer Russia any short-term revenue. Europe on the other hand has few short term options to Russian Gas. Consequently, Gas will have to be delivered to Europe via Ukraine, offering the EU one more reason to solve the political crisis. But given Europe’s weaker bargaining position following the disunity over South Stream’s cancellation, it will find it hard to set its own terms on a very likely settlement of the crisis. Putin’s decision therefore helps kill not two, but three birds with one stone. It prevents an escalation of sanctions, gives Russia a more favourable bargaining position on Ukraine, and helps solidify the country’s market share through low prices in the medium and long-term.


Stelios Papadopoulos is a political risk analyst, Wikistrat researcher and has a MSc in political economy

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