Why does Gazprom want to terminate its deals with Naftogaz?

On 28 February, the Stockholm court ruled against Gazprom in its dispute with Naftogaz, ruling the Russian company must pay $2.56 billion for under-deliveries of gas and underpayment for gas transit. Russia (through Gazprom) disagrees with the ruling. The award, though, final, binding, and should be carried out without delay. By announcing actions that undermine the ruling, Gazprom stated it is going back to the Stockholm court to start a procedure to terminate the contracts for gas supply and transit with Naftogaz. The decision was announced shortly before the planned start of deliveries to Ukraine in line with the Stockholm court’s December 2017 ruling. The Russian company did not dispute this ruling and had even invoiced Naftogaz for the gas and Ukraine paid for it, which means Gazprom’s actions should be seen as political.

What does it mean for Ukraine?

Ukraine stopped purchasing Russian gas in November 2015 and has not bought any additional gas since then. Gas demand in Ukraine (about 32 bcm in 2017) is covered by its own production (about 16.3 bcm) and imports from EU (about 14.1 bcm). The deliveries that were about to start from 1 March would have been in compliance with the Stockholm court ruling, which forced Naftogaz to buy at least 4 bcm of gas annually in 2018 and 2019 (because of a take-or-pay clause). Thanks to the diversification of supply sources through reverse flow capacities with EU countries, Ukraine will not be hard hit by Gazprom’s action, despite the low temperatures and higher gas consumption. Immediately after Gazprom’s statement, Naftogaz bought gas from Poland’s PGNiG. Ukraine, however, was counting on the Gazprom contracted gas because of the favourable prices imposed by the court.

How will the dispute affect European customers of Russian gas?

In 2017, Russia shipped nearly half of its exports to Europe via Ukraine’s transit system (GTS), amounting to about 90 bcm. This route still has strategic importance despite the higher utilisation of the alternative Nord Stream pipeline (in 2017, average utilisation stood at 93%, thanks to permission to increase gas transit via the Opal pipeline). Since transit is related to the EU’s security of supply, the GTS was stress-tested and passed, and continues to be monitored by EU institutions. In response to the lower gas pressure in the GTS, Ukraine attempted to initiate trilateral consultations involving the European Commission (which said it was ready to mediate). The Russian Energy Ministry, however, stated that there is no need for such talks. The crisis, though, has skyrocketed demand for gas in the EU and prices are the highest in years.

What is the future of Ukraine-Russia gas contracts?

Gazprom’s termination of the gas contracts means Russia wants to end gas deliveries to Ukraine, probably considering only enough ad hoc supplies to cover the repayment of Russia’s debt under the court’s ruling. Russia’s questioning of the latest ruling does not make clear Gazprom’s future tactics. In the longer run, it could mean Russia will no longer use Ukraine as a transit country: in the last few years, Russia has consistently tried to throw Ukraine’s reliability as a transit country into question while promoting the Nord Stream 2 (NS2) pipeline at the same time. Beside their open contempt of Ukraine, Gazprom and Russia want to promote NS2 as the only reliable supply route to the EU.

What does the dispute mean for Poland?

Like Ukraine, Poland decided (in 2015) to take to the Stockholm arbitration court a dispute between PGNiG and Gazprom regarding pricing. Poland now uses market gas pricing terms, however, the court hasn’t always ruled that way, for example, in Lithuania’s dispute with Gazprom. It is worth mentioning that in Ukraine’s case, the contracted gas price was openly linked to political concessions. Also, like Ukraine’s contract, Poland’s transit contract with Russia expires at the end of 2019 (though this is not part of any dispute). The Yamal pipeline running through Poland is fully utilised, but Gazprom was not interested in recent auctions in booking it after 2019. That suggests Gazprom counts on finishing NS2. In case of a delay, Gazprom will be forced to negotiate new transit contracts, including with Poland.