Gazprom Reveals Unaffordable Costs of South Stream Project

On February 6 in Moscow, Gazprom vice-president Aleksandr Medvedev gave a detailed presentation for potential investors regarding the South Stream gas transport project as well as the outlook on gas extraction. The presentation revealed huge increases in South Stream’s cost projections, coupled with stagnant gas extraction in Russia, which would prevent Gazprom from supplying South Stream with Russian gas (Interfax, February 9; Kommersant, RIA Novosti, February 9).

Gazprom now estimates the cost of South Stream at €19-24 billion, depending on the final choice of routes for certain pipeline sections, according to Medvedev. This new estimate is at least twice as high as the sums quoted barely a year ago when Gazprom and the Kremlin lured several governments into signing agreements to join the South Stream project. But even this new estimate seems incomplete, omitting the costs of some pipeline extensions that are being planned or negotiated.

According to Medvedev, the pipeline from Russia to Bulgaria on the seabed of the Black Sea would involve costs of at least Euro €4 billion. The two overland routes into Europe would together cost another €15-20 billion. One route would run almost 1,000 kilometers from Bulgaria to the Greek Adriatic coast, for subsequent prolongation on the Adriatic seabed to Italy. The other route would run 1,300 kilometers from Bulgaria to Serbia, Hungary, and Austria.

The costs of extensions from Greece to southern Italy (planned as a sine qua non of the whole project) and from Hungary to Slovenia and northern Italy (dangled by Moscow in negotiations) are apparently not included in the overall cost estimate just unveiled.

In the Black Sea, Gazprom (and by implication the Russian government) must choose one of two possible routes for the pipeline from Russia to Bulgaria. Italy’s ENI would build that line for Gazprom on the seabed. One route would cross almost the entire length of Ukraine’s exclusive economic zone and a small portion of Romania’s zone. The other possible route would cross Turkey’s exclusive economic zone on the seabed.

The first option, 900 kilometers in length, was Gazprom’s initial choice. Medvedev, however, announced in his presentation that Gazprom considers switching to the Turkish seabed option, so as to bypass Ukraine (it would also bypass Romania as a consequence). This change would entail a longer route and greater depths for the submerged pipeline, adding costs on top of those just declared.

With project costs of €19-24 billion and likely overruns even from that level, South Stream looks financially unfeasible. Disclosure of such costs would have frozen the project even during the recent period of windfall Russian profits and reckless Western speculation, let alone after the collapse of both.

Following the January 2009 Russia-Ukraine gas conflict, Moscow seeks Western support for South Stream as a solution to bypass Ukraine. Moscow also entertains the possibility of doubling its usage of the Blue Stream One pipeline on the seabed of the Black Sea from Russia to Turkey, which is also a solution to bypass Ukraine but would divert gas volumes away from South Stream.

At the same time, however, Russia seeks to gain some form of control over the Ukrainian gas transit system, ostensibly to modernize it. This would imply continual use of the Ukrainian system by Gazprom, albeit depending on Russian volumes available during the shortfall period ahead (see EDM, January 27). Russia has even turned down-at least for now-proposals to increase its gas exports through the existing Belarus-Poland transit pipeline at the expense of Ukrainian pipelines.

In summary, Russia seeks to multiply its export pipeline options and negotiation options even as its gas exports stagnate or decline. The intention is to increase leverage on consumers in various European markets unconnected with each other at the downstream ends while Russia alone controls the commodity at the upstream end. The policy had emerged clearly by 2007, when Gazprom was earning windfall profits and the Kremlin could use Western connections for political and financial support of its gas transport projects. Multiplying export routes and building surplus transport capacities would enable Russia to impose its terms both on consumer countries and on transit countries. In a follow-up stage, a gas exporters’ cartel based on division of European markets would strengthen Russia’s hold on its captive markets.

At present, pipeline capacities available for Russian gas transit to Europe are roughly estimated at nearly 200 billion cubic meters (bcm). These capacities include the Ukrainian pipelines (which account for approximately two thirds of that estimated total), Yamal One via Belarus, and Blue Stream One. According to Medvedev’s presentation, Gazprom plans building additional pipelines to achieve a total of 304 bcm in transit capacities by 2015, although it only envisages 220 bcm in annual exports to Europe by that time (Kommersant, RIA Novosti, February 9).

South Stream was planned as part of this expensive policy to build surplus transport capacity and to multiply export routes. Moscow had formed this policy in anticipation of its gas shortfall but did not anticipate the international financial crisis and the abrupt fall of Russia’s oil and gas profits. These factors are now preventing Moscow from pursuing that strategy; and are making it impossible for narrowly-based interest groups in certain European countries to subsidize this Russian strategy.