RONDELI BLOG

Europe's energy future - challenges and opportunities

2022 / 03 / 22

Davit Shatakishvili, MPA, Tbilisi State University and German University of Administrative Sciences Speyer

 

Russia's military intervention in Ukraine, among other circumstances, will inevitably alter the geopolitics of energy and result in a redistribution of forces. From the very first day of the Russian aggression, discussions began on economic sanctions, the importance of European energy security, and market diversification. This includes not only the desire to cause financial damage to Russia, but also to ensure its own stability and long-term energy sustainability, as well as to deprive Russia of the political and economic leverage, which it uses as one of its main tools for pursuing its interests. The Russian president seems to believe that his energy resources are so valuable to Europe that an attack on them is unlikely. This is partly true. Europe's high dependence on Russian energy sources does somewhat limit the West's immediate response, even in the event of military aggression, and pushes it to pursue a more cautious policy. However, new opportunities are emerging for Europe to take care of its own energy future and to practically realize the agreed upon goal of making Europe no longer vulnerable to potential threats from a single supplier. It is interesting to analyse how the world community behaves against the backdrop of the clear Russian aggression, keeping in mind the alternative market resources and possible scenarios for the development of events.

 

Possible energy response to the aggressor

For Russia, energy resources are the main source of budgetary revenues. In 2021, the country received up to $160 billion from gas and crude oil exports alone. Its daily production is about 11 million barrels of crude oil, half of which is used for domestic consumption, while 5-6 million barrels are exported daily. About 2.5 million barrels of exported oil go to the European countries, while 1.8 million barrels per day go to China.

Following the military intervention in Ukraine, the issue of sanctioning Russia's energy resources was actively discussed. Yet, Russia also has the resources to create a brief energy shock for Europe. A complete gas shutdown, for example, would cost Gazprom an average of $215 million a day. In the event of a three-month embargo, the total loss would be about $20 billion. The development of this scenario would have been more realistic in the period before the sanctions, given the $630 billion in financial reserves mobilized by the Central Bank of Russia. Despite the fact that, currently, these assets are frozen, there are also other types of cash in the country, and the decrease in their volume might be acceptable to a President Putin seeking to demonstrate his strength in Europe. Although, under European law, all importing countries are required to have a three-month reserve of energy resources, and Europe still has that capacity, a Russian decision to block the supply of gas would still would be a heavy blow.

Following the recognition of the so-called independence of the Donetsk and Lugansk regions by Putin, German Chancellor Olaf Scholz suspended the North Stream 2 certification process, saying that the escalation of the conflict inhibits development of the project. However, a few days ago, he also said that while Europe supports the imposition of tough sanctions against Russia, it is not ready to abandon energy imports from Russia. The United States has been actively discussing sanctions on Russian energy resources, while also calculating the impact on prices, so as to avoid counterproductive outcomes from the appropriate measures. As a result, the United States has imposed an embargo on Russian oil and gas, as did Canada. According to the British government, the import of Russian oil into the UK will be ceased by the end of 2022.

 

European energy security

During each crisis, the discussion intensifies about the significant dependence on Russian energy resources. The European countries are trying to gradually introduce and utilize renewable energy, however, it is taking time. So far, renewable energy sources account for just 22% of total energy consumption across Europe. Germany, for example, abandoned coal power plants in response to climate change, and partially shut down its own nuclear power plants after the Fukushima nuclear plant accident.

Europe receives about 40% of its gas supplies from Russia, followed by Norway (22%), Algeria (18%), and Azerbaijan (9%). 25% of the total energy consumption of Europe’s largest economy, Germany, comes from gas, and it receives 55% of its total gas supply from Russia.

In addition, Europe buys liquefied natural gas. It is noteworthy that in recent years, the United States has significantly increased liquefied natural gas exports to Europe. As liquefied natural gas is transported by ships, it requires the appropriate port infrastructure, which so far is present only in a small number of European ports. Another challenge in this regard is the lack of reserve capacity. That is why Germany announced the construction of liquefied gas terminals.

The West has begun to think more actively about its own energy security. As German Vice-Chancellor Robert Habeck said: "We will diversify our energy system, we will no longer buy this amount of coal and gas from Russia."

 

Sustainable energy alternatives

In general, changing an oil supplier, considering means of transportation, is much easier than doing so with a supplier of natural gas. Consequently, for those countries dependent on Russian energy resources, diversifying oil suppliers may be timely and effective.

Natural Gas

Russia is the richest country in the world in terms of gas reserves, followed by Iran and Qatar. Europe has several ways to diversify its natural gas suppliers. For example, Norway, the Netherlands, and the United Kingdom could increase gas extraction through wells in the North Sea, from which about 30% of Europe's current gas supply comes. In addition, there is the possibility of increasing the output of Algerian gas pipelines. It is also possible to use Azerbaijan’s resources to supply parts of southern Europe.

A good alternative to natural gas is liquefied natural gas. Despite the high price, its main advantage lies in the fact that pipelines are not required for transportation and it can be moved from one point to another without issue. Along with the United States, Japan has also expressed readiness to export liquefied natural gas.

Oil

Europe also has the opportunity to diversify its oil suppliers. First, though, the Organization of the Petroleum Exporting Countries (OPEC) should increase its monthly production quotas for countries such as Saudi Arabia, Qatar, Angola, and Nigeria. Saudi Arabia can produce more than 3.5-5 million barrels per day, which would allow Europe to replace about 30% of its imported Russian oil. In general, oil production has reduced since 2020 due to the pandemic.

Another alternative under consideration is the easing of economic sanctions on Iran, allowing it to double production of the current 1.5 million barrels per day. Naturally, Iranian oil cannot be exported to Europe in its entirety, but if even just half of it was exported, it would be possible to replace 25-30% of Russian imports. According to reports, Iran has already announced an increase in oil exports.

Reportedly, the United States is also in talks with oil-rich Venezuela to increase oil supplies to the market in exchange for lifting sanctions. The US also has the capacity to increase its own oil production output. It has already started selling 1.3 million barrels of oil per day from its strategic reserves.

In addition to the above is very interesting technology for obtaining fuel from coal, which is actively used by the UK, as well as a number of countries in Africa and Asia.

 

What should we expect?

The world agrees that the most effective way to inflict financial and political damage on Russia is through energy blockades, however, Europe is unprepared to do so practically.

Clearly, there are several scenarios for the development of events. First of all, it is possible that regardless of the conflict, Europe will choose to maintain the energy status-quo. While unlikely, there is still a small chance that Russia will arrange a short energy shock for Europe. In this case, Europe will suffer, but the situation will not reach a critical level. Also possible, but unlikely, especially in Europe’s case, is that we see other countries following the example of the United States, Canada, and Britain, and applying energy sanctions on Russia. In any case, an increase in prices for energy products is inevitable.

It is essential that Europe be prepared for any eventuality. In the short term, in the worst-case scenario if the war continues, the sanctions imposed on Russia will bear fruit and may even become tougher. Against the background of Putin's impulsive actions, it is possible that Russia will leave Europe without gas in the autumn-winter period. It is therefore important for European countries to replenish their reserves and start negotiations to diversify markets.

In the medium term, it will be necessary to maximize the use of renewable energy sources and invest in their development. It is also important to enter into long-term contracts with potential energy suppliers. During this period, liquefied natural gas terminals and the appropriate port infrastructure need to be built to receive it.

In the long run, it is vital to continue the renewable energy reform, to achieve energy efficiency, and to create the appropriate infrastructure for it.

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