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September 02, 2008

Georgia-Russia Conflict Changes The Energy Equation

by Bruce Pannier

Officials at the Baku-Tbilisi-Ceyhan pipeline announced last week that the pipeline is fully functional and work has started to refill it. But in the weeks since the pipeline stopped working due to a fire along the Turkish section, much has changed along the pipeline's route due to the Georgian-Russian conflict.

There are fears that the conflict between Russia and Georgia may threaten existing and planned Caucasus energy routes seen by the West as vital supply corridors that avoid Russian territory.

Russia's military campaign this month in Georgia was a reminder that there is always a risk in running energy supply routes through this volatile part of the world -- a fact that is hitting home with potential investors in planned Caucasus natural-gas or oil pipelines.

When the conflict started on August 8, concerns immediately were raised about the Baku-Tbilisi-Ceyhan (BTC) pipeline, which pumps nearly 1 million barrels of oil per day from Azerbaijan to Turkey's Mediterranean coast, where most of the supply is then shipped to Europe. Georgian officials reported several times during the conflict that Russian warplanes had tried but failed to bomb the pipeline.

However, Russian forces did destroy one key bridge on a Georgian railway line, disrupting oil exports to Georgia's Black Sea ports.

Pierre Noel, an energy expert at the European Council, points out the strategic difference for Russia between the two export routes. The Russians, Noel says, "always want people to believe they have a limited agenda, so they bombed the railway that brings Azeri oil to Georgia, and BP has been forced to stop its shipments of Azeri oil to Georgia by rail because the bridge has been bombed. But they wouldn't bomb a pipeline which is not directly linked to supplying Georgia." That, Noel says, would give the West justification to accuse Russia of aggression against the West or the region beyond Georgia itself.

"I think they wanted to create the strong perception that they were dealing with a limited set of problems, which are...Georgia-centered. Bombing BTC would have been too open an aggression, an act unrelated to the issue at hand," Noel says.

Jennifer DeLay of the "FSU Oil and Gas Monitor," a publication of the Edinburgh-based Newsbase Group, says Russia didn't need to damage the pipeline to show who's in charge in the Caucasus. "The pipeline itself was not bombed, of course, but the bombing did come awfully close," DeLay says. "My personal belief is that the Russians have put themselves into the position to be able to have some measure of control over the pipeline even if they have not hit it directly."

Future Security

For now, the BTC pipeline looks secure for exports to Europe, albeit under the increased watch of Russia, as is the Baku-Tbilisi-Erzurum gas pipeline that runs along nearly the same route as the BTC. But the big question now concerns plans for future pipelines.

The United States and European Union have been supporting construction of the Nabucco gas pipeline to bring Azerbaijani and, more importantly, Turkmen and Kazakh natural gas to Europe -- eventually more than 30 billion cubic meters of gas annually. Nabucco is scheduled for completion in 2013, but no work has been done so far in laying the pipeline.

Nabucco also faces competition from the Russian-backed South Stream gas pipeline project that runs nearly the same route as Nabucco and targets essentially the same consumer market. Given the outcome of the Georgian-Russian conflict, potential investors will have to consider which of the two pipelines is more likely to be built first.

The answer at the moment seems to be South Stream. Since hostilities eased in the Caucasus, Russia's Gazprom has managed to conclude a deal with key Caspian gas supplier Turkmenistan. The details of that deal are unclear, but it appears Ashgabat has agreed to sell even more gas to Gazprom.

But in the end, just having those supplies may not be enough. Noel says that Russia's image in Europe has suffered from the military action in the Caucasus -- and that could spur a change in European energy policies.

"You can make the point that Russia has always met its contractual commitments, that it's been an extremely reliable supplier at least to Western Europe over the past four decades, which is true," Noel says. "But at the same time the political perception is something else and now the political perception is that Russia is not a reliable supplier, [or] at least it's a politically problematic supplier.... This will again increase the legitimacy of energy policies aimed at substituting away from gas, not necessarily only from Russian gas but from gas itself."

Still, it may not come to that. DeLay of the "FSU Oil and Gas Monitor" says Europe and Gazprom simply need each other too much. "Gazprom needs Europe as much as Europe needs Gazprom -- more, in fact. I believe that European gas sales account currently for about 60 percent of Gazprom's total revenues. Losing that would hurt the company very much," DeLay says.

So Russia may have won a Pyrrhic victory in Georgia. Its dominance in the Caucasus is almost beyond question now, but its image is badly tattered.

As a concession to customers in Europe, the Kremlin may have to allow alternative pipelines to be built to avoid losing revenue from sales in the West. After all, Europe may now see diversifying away from natural gas as preferable to a future as a captive customer of Russian gas supplies.
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