Pipeline Politics: Russia’s Natural Gas Diplomacy

(Editor’s note: This article was written before the worldwide economic decline that has affected Russia and the rest of the world.)

Natural resources are the lifeblood of the Russian economy and Siberia’s riches excite envy and awe from onlooking countries. Revenues from exports of oil and gas made possible one of the greatest economic comeback stories in recent memory. From the wreckage of the fall of communism and the subsequent currency collapse of 1998, an economic and political powerhouse has emerged. Russia is emboldened by renewed wealth and has no qualms about using its considerable clout in the energy industry to twist the arms of its neighbors. Some 157,000 km of natural gas pipelines serving more than 30 export markets are both an engine of economic growth and a powerful political sword.

In the privatization frenzy of post-Soviet reconstruction, many of Russia’s energy resources were sold off to individuals and corporations, often at cut-rate prices. However, under President Putin, energy assets were systematically and strategically brought back under state control. Deeply embedded in the Russian psyche is a belief that politics is a zero-sum game, and advancing “national interests” is the chief driver behind political decisions. Casualties are not only tolerated, they are expected. In the energy business, this mentality effectively gives Gazprom, the majority state-owned natural gas producer and distributer, liberty to take politically significant actions under the mantle of a legitimate business activity.

The Kremlin and Gazprom have intertwining purposes and interests. The company produces more than 90% of Russia’s natural gas and provides the state with roughly one quarter of its total tax revenue, in addition to owning and operating the massive pipeline infrastructure. Russian President Dmitry Medvedev is former chairman of Gazprom. This cozy relationship allows the Kremlin to influence international commodity markets for political gain.

Natural gas is less of a fungible good than oil and this distinction is reflected in the inconsistent prices for the resource. Pipelines are the only effective means of transporting natural gas at today’s prices and with today’s technology. The price of a unit of Russian gas varies by the terms of contracts set between Russia and its individual customers. Pipelines, by their fixed nature and high capital cost, force a long-term relationship between buyer and seller.

Unlike the situation for oil suppliers, a gas producer cannot quickly divert his or her product to another willing buyer should the initial customer be unable, or unwilling, to pay. Buyers do not have much flexibility either. In the short term, they have little choice but to purchase gas from the supplier at the other end of the pipeline. The relative rigidity of the natural gas industry inextricably links European gas consumers to Russia’s foreign policy objectives. These goals - broadly increased wealth, influence and security - are realized through the web of Gazprom’s pipelines crisscrossing the continent.