Russia for the moment is ruling the roost in the oil and gas war with its neighbours, writes Daniel McLaughlin

ON THE European Union’s eastern flank, 2009 has begun in the same way as the last two years, with Russia cutting energy supplies to a former Soviet republic and countries further west fearing a sudden midwinter drop in fuel flows.

Last January, Russia briefly halted oil exports to Belarus and, a year earlier, a suspension of gas supply to Ukraine affected deliveries to states as far apart as France and Romania, Italy and Poland.

As 2009 dawned, Russian energy giant Gazprom again halted gas provision to Ukraine over unpaid debts, and it has yet to agree how much Kiev will pay the Kremlin-controlled firm for its fuel this year. With Poland, Hungary, Bulgaria, Romania and the Czech Republic already experiencing a drop in gas supply, the year has opened with another sharp reminder of Europe’s energy dependence on Russia – provider of one-third of the EU’s oil imports and some 40 per cent of its gas – and with more pointed questions about how the bloc’s leaders intend to change that dynamic. In the constant and highly sensitive struggle to secure dwindling energy resources and create infrastructure to extract and deliver them to Europe, 2008 once more saw a determined and decisive Russia get the better of the EU. The European Union has more grand plans than it does solid deals to build and fill pipelines.

Perhaps the two biggest political events of last year in Europe were used by Russia to strengthen its hand in the great energy game.

In return for supporting Serbia’s failed attempts to block Kosovo’s declaration of independence last February, Russia received favourable terms – or “humiliating” ones, according to one Serb government minister – for its purchase of the state oil and gas firm, Belgrade’s most valuable industrial asset.

The deal will give the Kremlin, through Gazprom, control of Serbia’s energy market and includes a pledge by the Russian company to route its planned South Stream gas pipeline through the country. This will guarantee it future transit revenues and a potential role as a Balkan energy hub.

Russia’s brief war with Georgia last August also had major implications in the energy world, for both the big producers of oil and gas to the east of the Black Sea country, and the main consumers to the west.

Georgia is Washington’s and Brussels’s main ally in the region, not only because of its determination to join the EU and Nato and break Russia’s domination of the strategic Black Sea-Caucasus area, but because it serves as a vital current and future transit route for the westward export of Caspian Sea oil and gas.

Three major pipelines already take oil and gas from Azerbaijan across Georgia towards the Black Sea and Turkey. It is also the intended route for Nabucco, the EU’s planned rival to South Stream, and Brussels’s main hope in the bid to wean member states off Kremlin-controlled fuel flows.

All three existing pipelines temporarily stopped pumping during the war with Georgia, as Russian bombs fell nearby and struck the port of Poti, its main Black Sea outlet for oil exports.

The war brutally exposed the fragility of a country that is at the heart of the West’s fuel plans for decades to come. It also showed energy-rich former Soviet republics like Azerbaijan, Kazakhstan and Turkmenistan that Moscow is not ready to relinquish its role as the major regional power and would use force to defend its interests.

The Kremlin has put a high priority on securing future oil and gas supplies from its central Asian neighbours, knowing full well that losing control of energy flows from the Caspian Sea towards the EU would reduce dramatically its political and financial clout on the world stage.

Gazprom offered last year to pay European prices for gas from Kazakhstan, Uzbekistan and Turkmenistan, a move that would almost certainly lead to the likes of Ukraine and Belarus, which have thus far paid Russia less than the market rate for gas, facing potentially crippling price rises.

The Kremlin may have to sell the Kazakh, Turkmen and Uzbek gas at a loss to its neighbours.

However, it would rather endure that than see the EU buy up supplies from the region to fill Nabucco, something that would quickly erode the dependence of both Europe and central Asia on Russia. Russian prime minister Vladimir Putin clinched a deal last year to build a new pipeline to take Uzbek gas north to Russia rather than west towards the EU, and signed an agreement to route South Stream across Bulgaria – one of several EU members who are involved in the rival project to Nabucco. As in previous years, Russia in 2008 busily recruited partners along the planned route of South Stream and sourced future gas to pump through it.

The EU appeared, yet again, to barely move forward on Nabucco, but there are signs that it is waking from its bureaucratic slumber and preparing to take the energy battle into the Kremlin’s backyard.

In November, the European Commission proposed the creation of the Caspian Development Corporation to deal directly with central Asian governments to secure gas supplies and build the infrastructure needed to bring them through Azerbaijan, Georgia and Turkey and on to western markets.

In the same month, the presidents of Azerbaijan and Turkey met their counterpart from Turkmenistan to discuss how the latter could co-operate in Nabucco.

As Nabucco finally appears to be gaining some momentum, the financial crisis is biting deep into the Russian economy.

Russia’s sovereign debt was downgraded by Standard Poor’s for the first time in 10 years last month, Moscow’s stock exchange has lost about 70 per cent of its value since May, and the central bank has spent more than €115 billion to support the rouble. The Kremlin’s budget will also start to creak if oil prices fail to recover from their recent steep decline.

Serb officials disclosed recently that Russia would not finish South Stream until 2015 – two years later than planned. Nabucco, despite a predicted six-month delay due to the credit crunch, is expected to start pumping gas in 2013, potentially giving it an unexpected advantage. The current, deepening gas crisis in Ukraine should only strengthen the EU’s resolve, and increase the tempo of work on Nabucco.

Russia won the 2008 round of its energy battle with Europe, but perhaps 2009 could be the year when the EU’s long-awaited fightback begins.

EU refuses to mediate in gas dispute: page 10