Energy’s Impact on Europe’s Moral Imperative

Featuring Ariel Cohen, Alum of the The Fletcher School

French President Emmanuel Macron is joining other European leaders in support of an EU Russian oil embargo according to French officials.  French Finance Minister Bruno Le Maire says he hopes that the EU can “stop importing Russian oil in a matter of weeks.” 

Just last week, foreign ministers from Ireland, Lithuania and the Netherlands said the European Union was drafting proposals for an oil embargo on Russia on news that Russian troops were killing civilians in Ukraine. 

Before that, the EU approved a fifth round of sanctions that included a ban on Russian coal imports.  But with Russian oil making up nearly a quarter of the EU’s crude imports, a ban would come at a noteworthy cost.

The Cipher Brief spoke last week with expert Norm Roule to help put Europe’s energy problem into perspective.  “A hard cutoff of Russian energy would confront Europe with curtailed industrial production, blackouts, an inability to build stockpiles for next winter, and a likely recession,” said Roule.  “Policymakers will also want to understand the impact further economic sanctions will have on emerging economies and whether India and China will cooperate.  Actions that diplomatically isolate Russia will be easier, albeit far less impactful on Russian decision making.”

But reluctance over such a ban – even in light of Russia’s brutal actions in Ukraine – remains, as the prospect of expanded Western sanctions would work directly against Europe’s economic interests.

The Cipher Brief talked with Dr. Anna Mikulska, and Dr. Ariel Cohen, for their perspectives on Europe’s need for energy and what’s at stake.

The Cipher Brief:  Some observers believe that cutting off Russian gas could wipe out growth in Europe’s biggest economies, send energy prices to record levels, and propel inflation through the global economy.  Given the grim outlook, what measures is Europe likely to pursue to demonstrate its disapproval of Russian military actions in Ukraine?

Mikulska:  It may depend on the extent to which Russia is willing to further push its actions and atrocities that its military might commit.  Europe’s economy is important but may have to take a back seat at some point.  Just look at the exit of Western companies from Russia, including energy companies such as BP and many others. The move is not predicated upon expectations of profit, rather the opposite but the moral imperative is more important. 

For Europe, this will also be the case and each government will put different variables into their equation.  Natural gas is a tricky commodity, especially in the winter, as much of it serves heating people’s houses. The inability to do so could be catastrophic — think February last year in Texas. Europe has already cut some of its industrial activity that depended on gas and possibly more is up for cuts.  This will impact European economic growth either way. Prices of natural gas will be high as Europe will try to fill up its storage facilities over the summer with Liquefied Natural Gas (LNG), competing with Asian buyers.

Cohen:  This issue is driven by the internal priorities and interests of each country. France generates about 70 percent of its electricity through nuclear.  It doesn’t mind slamming natural gas sanctions against Russia because it will still have its electricity from nuclear and it will have gas from other sources.  Germany, on the other hand is vehemently against that.  Holland is against that because the Dutch field at Groningen is depleting, and Holland is also a center for LNG trade, so it wants Russian LNG.  Everybody is scrambling to protect their own interests.

The interplay between Paris, Berlin, and more minor capitals and Brussels is fascinating, but I think what’s significant, and what people forget, is that Europe was really driving the transition to renewables hard.  In Germany, this is known as ‘energiewende’ — energy transformation.  Now they have the Green Party in the coalition, so that was a moment to shine.  Then, in December, probably knowing what was coming, and probably understanding that the massive investment in renewables is not paying off, the EU declared that natural gas and nuclear will be the green fuels.  Before that they were not.

Germany agreed on natural gas because for them, it’s a major transition from fuel to renewables, but they still resisted nuclear.  I think the biggest strategic mistake by Germany that drove this dependence on Russian gas was shutting down nuclear because of the Green agenda. It was a strategic mistake. Whether they’re going to roll it back or not remains to be seen. So far, I think they’re sticking to no nuclear.  When you’re asking, what can they do, they can start boosting their nuclear energy.

The Cipher Brief:  Even before the public exposure of apparent atrocities committed by Russian troops, European leaders – Germany, in particular – were talking about implementing contingency plans to reduce dependence on Russian energy supplies.  What do these measures include, and could they be expanded and accelerated?

Mikulska:  Yes, Germany would need to think about what to do if they wanted to replace their supply of gas coming from Russia, which makes up more than 50 percent of their imports. Rationing will be important as will working with other countries to balance the market. An important move was Germany’s takeover of Gazprom Germania GmbH, the subsidiary that in 2021, was held to record-low gas storage levels. In fact, Gazprom was fulfilling some of its contractual obligations to supply gas to Europe by withdrawing that gas from its storage in Europe at the time when the EU was trying to buy more gas to fill its storage to average levels. The system was obviously broken and will need to be fixed. In Europe, this will most likely mean regulatory measures; we have already heard about mandatory 90 percent storage fill levels as of October 1st.  The EU also is talking about mandatory gas storage fill levels.

Cohen:  Europe has LNG terminal capacity, but they also are now buying Floating Storage and Regasification Units (FSRU).  That’s big bucks because each unit costs something like $250m.  The Lithuanians have one, the Poles have one, and then they have one on the beach facilities, K-R-K in Croatia. There’s one being built in Alexandroupolis, in Greece.  The connectivity between the European network and these FSRU facilities is another very important subject.  Spain and Portugal have a lot of capacity, but they don’t have the pipeline into the rest of Europe.  They can take LNG and pump it into the rest of Europe, into France and further into the network.

The other problem you have is the scarcity of gas. That’s a big problem. We don’t have enough LNG sloshing around and that will drive prices up, clearly. For example, the price of LNG in Europe was half of the price of LNG in Asia. Now they will even out.

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The Cipher Brief:   Although the present crisis is centered in Europe, global factors are likely to come into play as the U.S., EU, and Russia prepare for shifts – and countermoves – in the energy economy.  What role could actors outside the region – especially Middle East oil suppliers – play in the evolving situation?  Are oil-producing states likely to favor the U.S. and its allies, or Russia?

Mikulska:  We have seen little to no moves from OPEC when it comes to oil supply and production increases beyond the levels that were set long before the Russian invasion. This can – and most likely has — roots in two factors.

First, there is a general expectation from oil producers that current needs for oil production will wane as recovery from COVID-19 fades, or new COVID waves are an issue, especially in Asia, and hence, if they start producing much more, they may end up with a low demand-high supply situation and we will experience a wild drop in oil prices.

Second, OPEC countries, including most importantly, Saudi Arabia, have been moving geopolitically toward Russia in recent years and away from the U.S.  There has been the feeling, also in the U.S., that the Carter Doctrine is not as central to the U.S. policy given the U.S. shale revolution and its success in oil and gas production. In fact, this production made it difficult for OPEC to control global oil markets as it did before.  It needed Russia to regain its influence.  Therefore, OPEC is hesitant to go against Russia now by increasing production and calming crude prices, which would be seen as helping the U.S. and Europe – as well as other countries globally of course – in taming prices at the pump.

Cohen:  Everybody is running to the Saudis and the Emiratis asking to pump more oil, and for sure, Saudis can whereas the gas is in Qatar, but the Qatar production is already spoken for, and American production is spoken for.   Qatar, the U.S., and Australia are the top three producers. This is a very tight market.  To make a long story short, it will take time, and these are very capital intensive projects. Gas is an order of magnitude more expensive than oil to drill for. And offshore is more expensive than onshore.

So let me pivot to Iran. Iran has 90 million barrels of oil in storage.  The U.S. released 180 million [from the strategic reserve] and the International Energy Agency released another 60 million.  Saudi could just start pumping up probably a million to a 1.5 million barrels a day immediately. But the Iranians have 90 million in storage. They could start releasing it. That would drive the oil prices down.

Iran has a lot of gas, and if they’re smart, they would just calm down and let oil companies or gas companies develop the huge gas resources. The giant gas field that the Qataris are exploiting is very successful, to the tune of over a trillion dollars in the national sovereign wealth fund. The Iranians have more than half of that field. They just didn’t get to developing it. They could if they stop being so cantankerous.  So that’s another possibility.  We develop Iran, both through a release of oil in storage and bring back the Iranian oil industry to address shortages and also to develop gas.

The Cipher Brief:  If, as expected, the EU decides in the near term on limited sanctions on Russian energy supplies — affecting primarily coal and oil — what longer term steps can the EU or individual European states take to reduce dependence on Russian natural gas deliveries?  Is there willingness in the EU to develop alternatives to existing natural gas structures and arrangements?

Mikulska:  Europe needs to develop a system that is independent of the Russian supply.  The continent emphatically needs gas.  Gas is great for use when renewables are not there to support the grid.  Plus, gas is a major fuel for heating.  There are several important ways in which Europe could and should act.

First, building more interconnections to make use of unused LNG capacity, particularly in the Iberian Peninsula, which has a huge amount of LNG intake capacity but is barely connected to the rest of Europe. Also, potentially better connections to Italian LNG intake, and via pipeline to the UK, could help balance the European gas market.

In addition, bringing more LNG terminals online particularly where Russian gas would have been used otherwise. Germany comes to mind, of course, but other locations could also be important. More LNG capacity in Central and Eastern Europe could be added too. They are not as well interconnected as the West. 

Cohen:  I’ll focus on Germany.  When the Germans say we’ll get off Russian gas, and you look at the numbers — if they opened the Nordstream 2 pipeline, they would have had 55 percent of their gas coming from Russia. As it is now, it’s over 40 percent. How you replace that amount in billion cubic meters — that’s a lot of their gas. Russia is exporting about 200 billion, it goes up and down. Out of that, let’s say Germany is half, that’s 100 BCM, and I’m looking of the available pipelines and LNG, it is very, very difficult. I do not see how they replace it.

They’re already saying we’re giving up Russian coal, and Germany has capacity for coal-fired stations. There’s plenty of coal around the world, but it’s very polluting.  

They could do a 180 and say, “You know what, on second opinion, we decided that nuclear is not so polluting and not so bad. Here are the guidelines.” That’s what the EU did. You don’t just keep, like we do, spent fuel in barrels somewhere. You bury it like the French and the Finns do, deep in the mountain somewhere, and hope it doesn’t seep into the water table. They need to revisit and tighten the controls over nuclear. Here’s where your baseline capacity may come from. They haven’t done that yet. And the second thing is that now, nuclear is very expensive. The materials are expensive. The timeline to build used to be four or five years, now it’s seven to ten years, and double the price, so I’m not sure they will buy that. They can also push more renewables.  We’ll see what the limitations are.

The piece includes reporting, research and analysis by Ken Hughes and editing by Suzanne Kelly

This piece is republished from The Cipher Brief.

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