Europe’s plans to replace Russian gas are deemed ‘wildly optimistic’ — and could hammer its economy

Environment

A drilling rig at a gas processing facility, operated by Gazprom.
Maxim Shemetov | Reuters

The European Union’s best shot at replacing Russian gas imports this year is likely to miss the mark, analysts predict, exerting further pressure on the region’s economy.

The EU plans to replace two-thirds of Russian gas imports by the end of the year, as Russia’s war in Ukraine continues to wage on.

The shift away from the country’s gas supplies became even more urgent after the country’s state-backed Gazprom reduced flows to Europe by 60%, citing a delay to repairs on the Nord Stream 1 pipeline that runs to Germany beneath the Baltic Sea.

The European Commissioner for Energy, Kadri Simson, will meet with EU energy ministers on Monday to discuss potential coordinated measures, including demand reduction and contingency plans should the situation deteriorates further.

However, the EU’s current plan to replace Russian gas looks to fall short.

In 2021, the EU imported around 155 cubic meters (bcm) of natural gas from Russia. The bloc’s proposed gas replacements by the end of 2022 – which include LNG (liquefied natural gas) diversification, renewables, heating efficiency, pipeline diversification, biomethane, solar rooftops and heat pumps – amount to around 102 bcm annually, according to data from the EU Commission’s REPowerEU, aggregated in a recent report from economic consultancy TS Lombard.

Christopher Granville, managing director for EMEA and global political research at TS Lombard, said in the report that the European Commission’s aims to replace Gazprom’s gas this year look “wildly optimistic.”

“Apart from implementation timings of commissioning German LNG-receiving terminals, Russia is also an important supplier of LNG, underlining the challenge for Europe of sourcing adequate LNG supplies,” Granville said.

The share of Russian gas imports to the EU has already decreased from 45% in April 2021 to 31% in April 2022, with the share of pipeline gas alone falling from 40% last year to 26% this year.

However, total LNG imports have hit record levels, with 12.6 bcm imported in April alone, representing a 36% year-on-year increase despite the reduced share coming from Russia. This would indicate that Europe’s diversification efforts are beginning to bear fruit.

‘Blackmail’

A European Commission energy spokesperson told CNBC on Thursday that Gazprom and Moscow were using energy supplies as an “instrument of blackmail.”

“Following Gazprom’s earlier unilateral decision to stop delivering gas to several Member States and companies, and the below average level of its gas storage facilities in Europe over the past year, the latest moves remind us once again of the unreliability of Russia as an energy supplier,” the spokesperson said.

“They also reinforce our determination to achieve our REPowerEU goals to phase out Russian fossil fuels. Sanctions on Russian coal and oil are coming into force this year, and with the REPowerEU Plan we will accelerate the deployment of home-grown renewables, reduce energy use and switch to alternative suppliers that are more reliable than Russia.”

The European Commission and member states’ efforts to diversify away from Russian fossil fuels saw them last week sign a Memorandum of Understanding with Egypt and Israel for LNG exports from the eastern Mediterranean.

“We agreed a joint statement with Norway to step up our cooperation to have a deeper long-term energy partnership and will work towards securing additional short-term and long-term gas supplies, addressing high energy prices and cooperating on clean energy technologies,” the Commission spokesperson told CNBC.

“We are also working together with other alternative energy suppliers such as the USA, Qatar and Azerbaijan, to give just some examples.”

However, TS Lombard’s Granville predicted that there could be significant cost implications for Europe as it looks elsewhere for gas supplies.

“[The EU] will pay more on average for its [non-Russian] oil and gas than its peers. Asian countries will buy more Russian oil at discounted prices,” Granville projected.

“LNG imported by Europe from the U.S. will cost more than the price paid by U.S. consumers owing to transport and liquefaction/re-gasification costs.”

Energy rationing

This could hit Europe’s economy hard, at a time when it’s already struggling, given so-called “forever sanctions” on Russia, as the war drags on.

Another potential stumbling block for the region’s economy is the possibility of a full embargo on Russian gas supplies. It’s something that’s already worrying Europe’s policymakers.

In a research note Tuesday, Takahide Kiuchi, economist at Nomura Research Institute, highlighted that, “if the situation were to escalate going forward … then it’s fully possible that the EU will go so far as to ban the import of Russian natural gas.”

“With the G-7 now having decided to prohibit Russian oil imports, it’s likely that Russia may broaden the scope of its cutoff of natural gas to other EU nations as a retaliatory measure,” Kiuchi said.

“In that case, one might even suppose that the EU will try to make the first move and stay ahead of Russia, by declaring a ban on Russian natural gas imports.”

By bringing natural gas into the realm of EU sanctions, the euro zone economy could see a sharp slowdown, with Germany’s growth rate turning negative, Kiuchi suggested.

More broadly, the International Monetary Fund has indicated that escalations to existing sanctions against Russia from major industrialized nations — particularly if entailing severe restrictions to Russian energy exports — could cascade into even steeper energy price increases, deteriorating corporate and household sentiment and financial market disruption.

The IMF projected that such a sequence of events may depress its global growth forecast by as much as 2%.

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