Russian Gas Stoppages Stress EU’s Political Unity and Economic Outlook, Accelerate Russian Gas Exit

The decision by Gazprom to halt gas supplies to Poland and Bulgaria after both countries refused to use Russia’s proposed mechanism for gas payments is a significant escalation in the energy stand-off between Russia and the European Union. The move also substantially increases risk of further gas-supply disruptions to other EU countries if they also decide not to use Russia’s proposed mechanism.

Russia’s decision is a strategic retaliation against the EU, leveraging the former’s power as the most important supplier of natural gas to Europe. Europe received around 40% of its gas from Russia before February’s escalation of the war in Ukraine.

A complete and prolonged halt of gas supplies to Europe is not our baseline

Despite increased risk of further gas disruptions, a complete and prolonged halt of gas supplies by Russia to Europe is not our baseline scenario.

Firstly, energy firms in Germany, Austria, Hungary and Slovakia, countries which are among the largest importers of Russian gas in the European Union, are reportedly planning to open accounts at Gazprombank to meet Russian demands for gas payments.

Secondly, such a move would weaken Russia’s external position. Energy revenues are a critical source of foreign-exchange revenue for Russia, especially since sanctions have frozen around half of Russia’s international reserves. Today, Russia does not have the infrastructure capacity to redirect pipeline gas from the west to its east. The capacity of Russia’s eight pipelines suppling gas to Europe is around 220 billion cubic meters (bcm)/year, almost five times that of one pipeline towards the east to China, which, at full capacity, will reach 48bcm/year.

Reliance on gas, Russian energy differs widely across the EU

Poland and Bulgaria accelerating infrastructure projects to substitute for Russian gas

Poland and Bulgaria have both been accelerating infrastructure projects to start replacing Russian gas when both countries’ gas contracts with Russia expire at the end of 2022.

Poland has diversified its gas import infrastructure in recent years. The country is planning to replace Russian gas through pipeline imports from Norway via the Baltic Pipe, which will be operationalised by end-2022 with a capacity of around 10bcm annually. This would completely substitute Poland’s Russian gas imports of 10bcm, or about 50% of its total domestic use.

Further alleviating the impact from Russian gas interruption is the fact that Poland’s gas storage facilities are almost 80% full and can import around 6bcm per year via the liquefied natural gas (LNG) terminal on the Baltic Sea, in addition to domestic production of circa 4bcm. As a result, we do not expect substantial gas shortages in Poland due to Russian gas stoppages.

The risk of gas supply disruptions is higher in a case of Bulgaria, as the country relies on Russia for almost all of its natural gas. Construction is underway of a new gas pipeline connected to a planned LNG terminal in Greece, due to be operational by 2023. This would provide Bulgaria with access to alternative gas supplies from exporters such as the United States, Egypt and Qatar.

An additional 1bcm will come from Azerbaijan via the Greece-Bulgaria Interconnector, which is scheduled to start Q3 2022 and holds a capacity of up to 3bcm annually. Given the relatively small size of Bulgaria’s gas market (annual gas consumption of around 3bcm), the country will also likely rely on European solidarity and co-ordination to fully meet its energy needs until the projects are fully operational.

The immediate economic impact from gas stoppages would be felt via higher commodity prices

The immediate economic impact from Russian gas stoppages would be felt via higher commodity prices, which will add to inflationary pressure with an impact on household and government budgets and corporate profitability. We expect average growth in the central and eastern European member states of the EU (CEE-11) to decelerate to 2-3% this year, a downward revision from our December-2021 forecast of 4.6%. Poland and Bulgaria will grow 3.8% and 1.8%, respectively. Inflation will average about 10% in CEE-11 this year.

The agreement by Hungary, among other countries, to meet Russia’s terms for gas payments demonstrates how Russia’s demand is undermining EU sanctions of Russia and weakening the former’s common approach.

The crisis highlights the urgency for the EU to create an energy union in enabling Member States to better co-ordinate their energy policies and improve the bloc’s energy security. This would also critically alleviate continued energy price increases in case of a widened halt of Russian gas supplies.

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Levon Kameryan is Senior Analyst in Sovereign and Public Sector ratings at Scope Ratings GmbH.