Here's How America Can Counter Russia's Nord Stream-2 Gas Pipeline

July 31, 2018 Topic: Economics Region: Europe Tags: Nord Stream 2GeoeconomicsLNGRussiaGas Markets

Here's How America Can Counter Russia's Nord Stream-2 Gas Pipeline

Washington can help make Europe's gas market more competitive, undermining the domination of any one supplier—including Moscow.

The United States faces a narrowing set of strategic choices as the Nord Stream-2 (NS2) gas pipeline project edges closer to becoming a reality. For instance, it can impose sanctions against European firms supporting the line, capitulate, or find a way to offset the pipeline’s potential utility as a Russian tool of geopolitical influence.

Washington should now ask its Central and Eastern European partners (1) how it can help them build more liquefied natural gas (LNG) import capacity and (2) how can America better support additional pipeline capacity across Europe to more efficiently distribute gas across the continent? Successful execution of these steps would significantly neutralize NS2’s potential geopolitical benefits to the Kremlin. We call the policy “gas geoeconomics,” in a nod to U.S. Ambassador Robert Blackwill and Jennifer Harris, who co-wrote War by Other Means. They define “geoeconomics” as using “economic instruments to produce beneficial geopolitical results.”

Moscow’s motivations behind NS2 are probably not purely commercial, notwithstanding strenuous protests to the contrary by the project’s Western European spokespeople . But regardless of the Kremlin’s motives, a U.S.-led gas geoeconomics strategy would complement emerging gas market dynamics and mitigate NS2’s coercive potential. This would be done by advancing the creation of a more competitive and diverse natural gas market in Europe.

Energy security is best assured by a deep and fungible marketplace, where molecules can be freely traded and can flow toward disruptions. American-backed strategic gas projects would do exactly that by increasing European consumers’ access to flexible seaborne gas cargoes from a diverse array of suppliers around the world. This would also ensure that they could move more efficiently within the intra-European pipeline network.

To this point, U.S. funding should not create favoritism toward U.S.-origin gas supplies. Whether the gas comes from the U.S. Gulf Coast, Qatar, Norway, or Russia-based LNG producers, it builds a deeper and more flexible gas supply portfolio for Europe. The “ credible threat ” of alternative supplies deliverable on short notice can offset any single supplier’s ability to coerce European gas consumers. Furthermore, Washington can provide catalytic financial support to ease distributional conflicts and incentivize key local policymakers and monopoly gas distribution service providers in Europe to more rapidly liberalize their gas markets.

 

Gas geoeconomics would also help address an underappreciated aspect of Russian-European gas security relations: Ukraine’s own domestic gas dysfunctionality. A Russian move toward alternative gas supply routes would deprive Kiev of billions of dollars per year in gas transit rents. It would also force Ukraine to purchase its gas at market rates sourced via pipeline from Central Europe. This would seriously pressure energy-intensive Ukrainian heavy industries that rely on subsidized gas supplies from Russia, and perhaps even result in gas market reform in Ukraine.

Such an approach by the U.S. government could, in turn, help push the Ukrainian government toward commercial terms sufficiently favorable to attract multinational energy companies to develop the country’s considerable offshore gas deposits in the Black Sea. Notably, such an outcome would result in a more self-sufficient Ukraine.

Additionally, a gas geoeconomics approach is highly feasible. Unlike sanctions, it would leverage market forces, not require enforcement, and benefit consumers across Europe through greater gas availability and, all else equal, lower prices. U.S. sanctions directed against Russia often create serious diplomatic frictions, but it is very unlikely that European political figures—even those skeptical of the U.S.—would oppose improved access to competitively priced natural gas supplies that a gas geoeconomics strategy can facilitate.

Possible options for executing a gas geoeconomics strategy include: (1) loans that can be “forgiven” if recipients meet designated benchmarks, (2) one-for-one matching of local and/or European Union capital outlays (perhaps through the European Investment Bank), (3) regulated rates of return for private infrastructure developers, and (4) preferential project finance. Importantly, our analysis strongly suggests that each of these potential channels could be conducted in a manner fully compliant with EU laws.

Gas geoeconomics projects are also affordable. A floating storage and regasification ship capable of supplying the entire annual gas needs of a small European country can be leased for approximately USD 40 million per year. To put the scalability of multiple small investments into perspective, consider this: a $1 billion annual investment in strategic European gas supply infrastructure could secure gas import capacity equal to what Algeria supplies to the Continent each year, while only requiring 0.02% of the total U.S. federal budget for fiscal year 2019 and about 0.15% of anticipated defense spending in that fiscal year. The costs associated with developing infrastructure with a gas geoeconomic aim would primarily fall in the program’s first few years—during construction—while its benefits in providing a hedge against potential Russian coercion would endure for decades.

Finally, there is a further important wrinkle. If Nord Stream-2 does come online, the flood of gas it would unleash into Germany would likely overwhelm key points in the existing infrastructure linking German and Central European gas consumers. This will most likely create price disparities large enough to stimulate the construction of additional pipeline capacity between markets. Such a new and fundamentally commercial impetus for boosting gas connectivity between regional markets offers an excellent opportunity for capital investment, with or without EU and U.S. involvement.