Pavel Nikolayevich, has the Russian gas industry been affected by the political situation that faces Russia over the events in Ukraine?
Pavel Zavalny: The situation which has formed today in [our country’s] foreign affairs, the character of our relations with the United States and the European Union, has left its mark on the economy. In recent decades, Russia has been largely integrated into the global economy, and especially into that of Europe. Therefore everything that happens naturally affects the gas industry. The slowed economic growth rates in Europe and in Russia have resulted in lower demand for energy, and as a consequence the demand for gas has fallen. In the second half of the year exports have declined by 2.4 percent, partly in connection with a warm autumn, and with the cancellation of the provision of gas to Ukraine. In addition, the European Union has made a political decision to reduce its energy dependence on Russia, which affects not only gas but also oil and coal. These decisions have already been implemented. Therefore, in the first nine months of this year, gas production a whole has declined by 5.3 percent.
What is your forecast for the price of Russian natural gas on foreign markets?
Pavel Zavalny: Traditionally, the price of gas in our long-term contracts has been linked to the price of oil, with a six-month lag. Therefore, if oil prices decline, so will the price of gas. It is obvious that next year the price of oil will be lower than it has been this year; the market faces an excess of supply over demand, together with a slowdown of growth in demand. Therefore, over the next year, the price of gas will also decrease.
How are relations between Russia and Europe in the gas sector changing?
Pavel Zavalny: Unfortunately, our relations in the gas sector today are not only affected by the market, but also by politics –first and foremost the politics of the US and the EU. It is worth recalling that in the EU’s Third Energy Package on gas and electricity [which entered into force in 2009], a number of measures were presented which were aimed at reducing energy dependence on Russia, although the country was not specifically mentioned. For example, the gas pipeline Opal, the overland portion of the Nord Stream pipeline, is loaded only to fifty percent capacity, and it’s obvious that only Russian gas flows through it. But the European Commission does not give us permission to ramp it up to full utilization. Behind these actions is the politics of reducing energy dependence, and the situation is complicated by the events in Ukraine.
It’s worth recalling too the situation with the South Stream, with Bulgaria showing hesitation for many months, and ultimately not permitting the implementation of the project through its territory –also for political reasons. This stopped the construction of a gas pipeline which was necessary for southern and eastern Europe.
All this has led to a situation necessitating a change [of Russia’s role] in the European gas market. Until recently, discussions were held concerning strategic cooperation involving the participation of both consumers and producers. For example, we had allowed companies such as Wintershall, TOTAL and others to participate in the development of fields, create joint ventures and so on.
The South Stream project was also supposed to be implemented with the participation of Western companies. But now we have been forced to return to the old system of trade partnerships, in which gas is sold to the consumer at the border or at so called trade hubs. In this way, the market is forming only in the interests of the consumer, while all the risks remain with the producer. As a result, the question arises: if at some point the consumer and the producer cannot agree on the terms of the deal, the pipelines may simply be left without gas. This then becomes the buyer’s risk, and one that is not insignificant. The circumstances have led to a situation where the market is left with with fewer guarantees of security and predictability. It is precisely this arrangement that is being offered to us by the European Union today.
The Russian gas industry is being reoriented toward new markets, including China and Turkey. Is this beneficial for Russia, or is the country being forced to move in this direction due to political reasons?
Pavel Zavalny: It must be said that these projects with the PRC and Turkey are not new. They were originally conceived of about 10-15 years ago. Russia has long been thinking about diversifying the supply routes of gas and oil. You mention Turkey: This country is interested in increasing its supply of gas, and the South Stream project provided for that, aiming to address the growing demand for gas in Turkey. Therefore in the memorandum recently signed with Ankara, it is noted that firstly the capacity of the Blue Stream will be increased from 16 billion to 19 billion cubic meters. The first line of the new project is set to provide for [Turkey’s] current needs. The second and subsequent pipelines will supply gas to a specially designed hub which may appear in Turkey on the border with Greece, or the border with Bulgaria, for further transit to Europe.
Will it be necessary to seriously alter any strategic concepts concerning the work of the gas industry against the backdrop of recent changes?
Pavel Zavalny: Russia’s development strategy is updated every five years. Currently we are working according to the document ‘Strategy 2030’. Presently the basic provisions of ‘Strategy 2035’ are being developed. It is true that the strategy under which we are presently working is largely no longer relevant. Its forecasts have not come to pass, including those regarding the development of our country and the world energy market. It was planned [for example] that Russia would need 800 billion cubic meters of gas a year, but last year demand consisted of only 668 billion cubic meters.
Therefore it is vital that strategic forecasts, on the basis of which we plan the development of the industry, become more accurate. In addition, these plans should become more comprehensive and balanced. For example, plans for the production of gas must be connected to concrete regions, to specific fields, and take account the composition of gas; gas [is not limited to] methane, and also includes helium, ethane, propane, butane, etc. Along with gas production, it is necessary to develop the infrastructure and capacity for gas processing and gas chemicals.
What, in your opinion, will be required from the government in the present situation?
Pavel Zavalny: The government will need to play a more active coordinating role. No [single] public or private company, even the likes of Gazprom or Rosneft, can solve all the problems in the industry; therefore, the government should take on the role of overall coordination.
The authorities also need to establish and maintain a stable regulatory regime, including with respect to taxation. The main requirement from business with respect to taxation is the provision of a predictable tax regime. After all, any investor studies this point first and foremost, and only afterwards studies the rest. Tax policies cannot be changed every year. It is necessary to have stable tax rules for a period of at least 7-10 years.
What is your forecast for the development of the gas industry?
Pavel Zavalny: My prediction is optimistic. Energy consumption is growing worldwide, and will continue to grow. The demand for gas is growing as well; it’s presently at 2-2.2 percent per year. If the share of gas in the world energy balance presently sits at 23.5 percent, experts expect it to reach 25-26 percent by 2040. At the same time, the majority of demand will come from the Asia-Pacific region, especially China. In these circumstances I am convinced that our large resource potential and clear understanding of the tasks we face will allow the Russian gas industry to maintain its position as a backbone industry of our economy and one of the guarantors of global energy security.
