August 2022

Oil and Gas in the Capitals: Resupplying Europe: Questions

Russia’s war in Ukraine has destabilized Europe’s energy markets. It has compromised Germany’s energy transition, with repercussions for all of Europe. Warrior Putin has compromised Russia’s leading position in the European energy markets.
Dr. Øystein Noreng / Contributing Editor

Russia’s war in Ukraine has destabilized Europe’s energy markets. It has compromised Germany’s energy transition, with repercussions for all of Europe. Warrior Putin has compromised Russia’s leading position in the European energy markets. In 2021, Russia exported 2.4 MMbpd of crude oil to Europe, in addition to maybe 1.4 MMbpd of refined products. In 2020, Russia exported 198 Bcm of natural gas, of which 168 Bcm went to Europe. One half of Russia’s oil exports and 85% of gas pipeline exports went westward to Europe. The major outlets for Russian gas are Germany, Italy and Turkey.  

For many years, an implicit, energy policy premise was the open-ended potential for Russia to export crude oil, refined products and natural gas. There was hardly any question about Russia’s ability and willingness, nor about conditions. Apparently, Russia figured as a balancing factor in the energy projections of the EU Commission, the German government and several energy companies. The NordStream II pipeline, completed but not yet in service, was commissioned by several major energy companies. 

Dependence on imported energy makes Europe’s economy vulnerable, including to political blackmail. Gas pipelines from Siberia to Germany and Austria, through Poland and Ukraine, were built to promote trade, with political understanding as a bonus. Today, gas trade is threatened by Russian economic sanctions and countermeasures. Germany buys 55% of its gas from Russia, 50% of which is coal consumption and 35% oil consumption. Russia is not only a major exporter of crude oil, but also of oil products, such as gasoline, diesel and heating oil.  

Russia has, for decades, been the world’s largest gas exporter. Russian gas goes primarily to Europe, with increasing volumes going to China. Resources, including shale oil and gas, provide a basis for longer-term activities. Russia has accounted for about half of Europe’s gas imports by pipeline. Russia has sold gas mostly on long-term contracts at agreed price formulas. By terminating long-term gas contracts, the EU relieved Russia of supply commitments. Without an obligation to deliver more, Russia has reduced spot gas sales to Europe. Russia is free to choose the invoicing currency—in this case, the ruble. By insisting on euro or dollar payment on principle, regardless of the Ukraine war, the EU complicates the situation.  

The EU wants to liberate itself from Russian gas, but it risks being short-circuited by Russia’s actions to liberate itself from European customers. High commodity prices have helped Russia’s economy withstand sanctions, so far, and markets in China and India can take more Russian oil and gas. Thus, in the near term, it may be less that Europe is indispensable to Russia and more the other way around. 

The risk is that Europe’s phasing out of Russian energy will succeed more than intended, causing energy shortages, rationing, blackouts, an economic set-back and a job crisis. Some countries—Germany, Italy and Turkey—might, at that point, be more agreeable to Russia’s demands, perhaps even accepting to pay for oil and gas in a currency of Russia’s choosing. The stage might then be set for a split in oil trading, with one circuit based on the Shanghai oil exchange, trading in yuan. Thus, Europe’s gas crunch might advance China’s global financial strategy.  

An alternative outcome is that the world market rescues Europe, albeit at high prices, providing LNG supplies from multiple sources in Africa, the Americas and the Middle East.  

Russia and Norway have dominated supply—on different terms. Russia has been the leading supplier by pipeline, with Norway in a good second-place spot, ahead of Algeria. Trends in 2022 show Russian supplies declining, with Norwegian and Algerian supplies increasing slightly.  

In the 21st century, the European Commission has pushed an ambitious net-zero energy policy to eliminate fossil fuels, including gas—especially Russian gas. In EU politics, energy is subordinate to climate action. So far, EU energy policy has not succeeded in providing clean, reliable, and affordable energy; it has given Europe the world’s most expensive energy, with lower supply security, although it is cleaner. Consumer interests, supply security and price moderation have not been prominent EU objectives, in the current turmoil of national governments, such as in Belgium. Meanwhile, France, Italy, Portugal and Spain have taken the lead in sheltering household consumers and small businesses. The EU Commission wants to overcome the electricity crunch by investing more in windmills, a power source whose utilization rate is below 30%.  

Norway cannot replace Russia’s historical gas export volumes but emerges as Europe’s largest gas supplier, with potential new markets in Germany, Poland, the Czech Republic, the Baltics and Finland. Here, access is facilitated by infrastructure and markets in large cities and industries. Eventually, Barents Sea gas could land by pipeline on the coast of northern Norway, going through Finland to connect with the Baltic networks and Poland.  

The key question is whether Europe really wants Norwegian gas. Until 2022, EU energy policies had aimed to get rid of natural gas before 2050, providing disincentive for Norway and other countries to explore for oil and gas. From a gas exporter perspective, 2050 is a brief time horizon for a strong revival of an industry (almost) condemned to death. What risk does the EU assume that an exporter should take? How will EU energy policy eventually respond to political change in Russia? Is the EU prepared to modify climate targets to encourage an oil and gas expansion? The question is whether the EU can provide a setting for long-term energy investment that is not solar, wind or nuclear.  

About the Authors
Dr. Øystein Noreng
Contributing Editor
Dr. Øystein Noreng is a professor emeritus at BI Norwegian Business School. He has been an advisor or consultant to the International Monetary Fund; The World Bank; the governments of Canada, Denmark, Norway, Sweden and the U.S.; and energy companies, including Equinor, PDVSA and Saudi Aramco.
Related Articles
Connect with World Oil
Connect with World Oil, the upstream industry's most trusted source of forecast data, industry trends, and insights into operational and technological advances.