Foreign Correspondence

[Amaunet]

Russia casts energy web over East Europe

Judy Dempsey/IHT Friday, October 1, 2004

BERLIN Russia is maintaining and even expanding its grip on energy supplies to Eastern Europe and the Baltic countries, holding the new European Union members in an uncomfortable dependence on their former master to the east, according to experts working in the region.

Through its natural-gas monopoly, Gazprom, Russia has spun a web of control over energy supplies extending from Estonia on the Baltic Sea to Bulgaria on the Black Sea.

The move is aimed partly at gaining more market share in Western Europe through the back door of the East. But it is also preventing a wide swath of countries from diversifying their natural gas and oil supplies, the experts say.

Even as Eastern states were moving out of the former Soviet orbit, Gazprom, the world's largest natural gas producer, was establishing a series of joint ventures and offshore trading companies in the region.

The joint ventures, in which Gazprom has invested $2.6 billion, allow the Russian energy giant to control the supply, sale and distribution of natural gas to the region, the experts say.

Because of that, the company, which supplies about 25 percent of Western Europe's natural gas, has been successful in warding off competition in the former East Bloc area: It is the sole supplier to Estonia, Latvia, Lithuania and Slovakia, and provides 91 percent of Hungary's gas imports, 79 percent of Poland's and nearly three-quarters of the Czech Republic's.

"Gazprom gains control through direct investments and subsidiaries," said Emmanuel Bergasse, administrator for Central and Eastern Europe at the Paris-based International Energy Agency, a multinational monitoring organization.

"Gazprom has substantial market power, from being the supplier of gas down to the customer. It is that chain it controls."

Gazprom declined to comment on its Eastern European activities, saying that all matters were covered in its 2003 annual report.

In a written reply to questions, a spokeswoman, Olga Moreva, said only, "Gazprom is satisfied with the financial performance of its joint ventures in the European region."

Gazprom has maintained its grip on the region despite calls by the European Commission for Eastern European countries to diversify their energy supplies, and despite the entry of several of these countries - the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Slovakia and Slovenia - into the European Union in May, a move that was supposed to lead to more competition and transparency.

"Enlargement is supposed to be a big challenge for Eastern Europe, in the sense of creating more competition," said Claudia Kemfert, energy expert at the DIW economics research institute in Berlin. "On the one hand, these countries do feel more secure now that they are inside the EU. But on the other hand, they feel insecure because of their dependence on Russia for their energy. The entry of these countries into the EU has not led to more competition or diversification of energy supplies."

Even if the Eastern European and Baltic countries wanted to diversify their energy sources, they would be unable to do so now for two reasons, according to Kemfert.

First, they lack money to modernize the sector, although the EU and the European Bank for Reconstruction and Development have provided some financing. Second, Gazprom has been able to block diversification through its network of joint ventures and subsidiaries because it had already locked in contracts.

"How can these countries diversify?" Kemfert said. "Of course the Baltic states do not want to be in the hands of Russia. But what can they do? Gas and oil comes from Russia. The point is that it is hugely costly to modernize these energy sectors. So if they can continue to get the gas and oil from Russia, maybe in the long term it is cheaper for them."

In any event, she added, President Vladimir Putin of Russia "and his monopolistic energy company" want to "dominate the market."

Gazprom has been expanding at home and abroad under the stewardship of Alexei Miller, a colleague of Putin's from St. Petersburg who has been chief executive officer since 2001.

The company, already an energy titan, expanded its empire two weeks ago by acquiring one of Russia's largest oil producers, Rosneft, a state-owned company. The merger gave Russia a controlling interest in Gazprom, increasing state ownership to just over 50 percent from 38 percent previously.

Gazprom holds nearly a third of the world's natural gas reserves and produces 90 percent of Russia's natural gas.

The company's tax payments make up a quarter of the national government's tax revenues. Last year, it had revenues of 780.6 billion rubles, or $26.7 billion, and net profit of 142 billion rubles, a rise of 270 percent in profit over the previous year. Gazprom also operates the country's natural gas pipeline grid, giving it immense power over competitors wanting to enter the domestic gas market.

In the East European and Baltic region, Gazprom now has at least 23 big joint ventures. Many of the joint ventures are involved in gas distribution and transportation, among them Slovrusgaz in Slovakia, in which Gazprom has a 50 percent stake; Europol Gaz in Poland (48 percent); and Eesti Gaas in Estonia (30.6 percent).

According to a report by Ewa Paszyc for the Center of Eastern Studies in Warsaw, Gazprom has used these offshoots to maintain control of distribution in the post-Soviet era.

"Gazprom establishes a holding or a joint venture with a local gas pipeline operation creating a transit monopoly for Russian gas," Paszyc wrote. "Then it gradually exploits formal measures (terms of gas contracts) and nonformal means (personal connections, pro-Gazprom lobbies) to gain the deciding vote."

This allows Gazprom to dictate the terms and fees for transporting gas across countries and retain its status as a monopoly in these markets, according to Paszyc.

In 1998, for example, Gazprom, after several attempts, took over the shares of Topenergy, a Bulgarian company dealing with commercial distribution of gas in Bulgaria. Until then, Bulgargaz, the state-owned gas company, had owned Topenergy.

Companies that have resisted such ventures or takeovers have had to pay a heavy price. When Transneft, Russia's state-owned pipeline monopoly, was prevented in 2002 from buying a controlling stake in the port on Ventspils, Latvia, the largest in the Baltics, Russia imposed a blockade. It suspended shipments to Ventspils to force the port authorities to sell a stake to Transneft.

The opacity of these joint ventures and offshore companies could have implications for the security of energy supplies.

"The problem is that there is little transparency in these offshore companies," said Bergasse of the International Energy Agency. "This is not how business is done inside the EU. There is the issue of security of supply. If you buy gas from an offshore trading company, it could disappear. Who will then take over the supply and the obligations that go with it?"

Furthermore, he said, Gazprom's network of joint ventures across Eastern Europe is interfering with the European Commission's aim of diversifying energy supplies to EU countries.

"Gazprom's stated aim is to extend its dominant position, with obvious consequences for European energy diversification," Bergasse said.

Some Russians involved in the energy sector are skeptical about what value the joint ventures bring to Gazprom.

A report issued by Hermitage Capital Management, Russia's largest equity investment fund, with assets of $1.5 billion, including shares in Gazprom, said Gazprom did "not seem to be receiving significant profit from its investments in these joint ventures."

"I have raised the same question about the role of these joint ventures in Eastern Europe," said Vadim Kleiner, the head of research at Hermitage. "Are there any economic returns from these investments for Gazprom, and if not what is the business rationale for spending such money?"

The answer, experts say, is that Russia is less interested in profitability than in what Gazprom's ventures in new EU member states provide in terms of location and connections: an excellent launching pad for Gazprom to extend its presence in Western Europe.

"Russia wants to sustain its market position in the whole of Europe and especially in the ex-Soviet bloc countries," said Agata Loskot, Russian expert at the Center for Eastern Studies. "Of course its activities in the new EU member states can be helpful in the expansion into Western Europe."

Russia has its eye on winning more market share in Western European markets. According to the European Commission, the executive arm of the EU, Russia now supplies 44 percent of the natural gas and 18 percent of the crude oil imported by the 25 member states.

International Herald Tribune



International Herald Tribune
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