What is the Aim of Negotiations Between Georgia and Gazprom?

31 January 2016
On the 25th of September, 2015, Georgians learned that it was possible that their country would be importing natural gas from Russia, when Russian state-owned energy giant Gazprom published information on its official website revealing that they held talks with the Minister of Energy of Georgia, in Brussels. Between then and January 2016, Georgian energy minister Kakha Kaladze held three additional meetings with the Gazprom leadership. Many Georgians are skeptical about dependence on Russian energy sources. After the initial news about the Gazprom talks was revealed, energy minister Kaladze confirmed that the negotiations concerned details on transiting gas from Russia to Armenia via a pipeline running through Georgia – as well Georgia’s purchasing additional volumes of gas from Russia. Georgia currently receives 10% of the gas transited from Russia to Armenia as a transit fee. Kaladze later elaborated that the additional gas from Gazprom only concerned commercial gas use. Representatives from the government then made statements about the necessity of diversification when it comes to sources of gas. Yet during an unscheduled visit in October to neighboring Azerbaijan– which is Georgia’s main gas supplier -- the Prime Minister of Georgia at the time, Irakli Gharibashvili, claimed the opposite. Meeting with Azerbaijani President Ilham Aliyev as well the Minister of Energy, Mr. Gharibashvili denied the possibility of Georgia substituting Azerbaijani gas with Russian gas, and said that any talk concerning diversification to be absurd. Then on the 30th of October, the Ministry of Energy responded to a letter from the Republican Party, noting that the government was not planning to purchase gas for the commercial sector, and that there is to a long-term agreement signed with Azerbaijan in 2009 that satisfies social demands for gas, and so there was no need to purchase additional gas for that sector either. Meanwhile, the process for commercial entities to purchase gas is not regulated; a private enterprise can purchase gas, including from Gazprom, without the state’s consent. Energy Minister Kaladze’s statement about the negotiations differed. Initially, Mr. Kaladze explained the necessity of finding a new gas supplier was that Azerbaijan had insufficient resources, that Georgia had an increased gas consumption and that Azerbaijan was unable to supply additional gas, and that had problems with extraction. This was later not confirmed. The Azerbaijani side, by contrast, on numerous occasions expressed readiness to supply Georgia with the necessary volume of gas considering the increasing consumption. The following chart looks at Georgia’s gas consumption in recent years. Subsequently, it became known that the problem from the Azerbaijani side was not a lack of reserves of gas to satisfy increased consumption, but the lack of the technical capacity to provide additional volumes of gas for daily consumption during the peak consumption period in winter. On the 12th of January, 2016, Mr. Kaladze elaborated that daily consumption in winter reached 11 million m3 (cubic meters) and that it was impossible to fully satisfy this demand through the pipelines coming from Azerbaijan. He explained that Georgia receives 6 million m3 of natural gas daily via the Kazakh pipeline, and 2.9 million m3 via the South Caucasus Pipeline. From 2015 and onwards, the gas that Georgia currently receives from Gazprom in transit fees will not be enough to cover the gap in additional consumption. Kaladze says that Georgia has already used up half of the transit fee gas designated by the 2016 quota. In 2016, the total volume of gas that will be needed to fill the deficit is 300-400 million m3, and they the plan is to purchase this gas from Gazprom. This volume accounts for 12-16% of Georgia’s 2016 planned consumption; therefore the share of Russian gas in Georgia’s total consumption, including the gas Georgia receives as a transit fee, will be 20-25%. The CEO of Azerbaijani state owned energy company SOCAR Georgia, Mair Mamedov, partially confirmed that there are certain technical problems in SOCAR’s ability to supply additional volumes of gas during the peak period. However, Mr. Mamedov also explained that SOCAR is the commercial operator of the BP-owned Shah-Deniz pipeline, and can adjust the volume of gas discharged by this pipeline in the summer and winter seasons in order to fill the deficit. In addition, SOCAR will increase the volume of gas provided by the Kazakh pipeline to 7 million m3. Given this opportunity to increase gas supplies from Azerbaijan, it’s unclear why there were moves to receive more Russian gas in the stead of negotiating this with SOCAR.   Graph 1: Total Gas Consumption Trend in 2013-2016. image001 Source: Ministry of Energy of Georgia   Energy Minister Kaladze claims that he cannot tell at this stage what the price of the Russian gas will be, however he does claim that it is lower than Azerbaijan’s gas. According to information from the President of the Energy Academy of Georgia, Revaz Arveladze, the natural gas provided by Azerbaijan to Georgia is divided into several flows of various price categories. Georgia gets 5% of the gas transited via the Shah-Deniz pipeline to Turkey for free (295 million m3 as of 2014), whilst according to a contract, Georgia receives 500 million m3 of gas for the price of “$55 + 1.5% annually.” The price of this 500 million m3 of “social gas“ is $189 per 1,000 m3. Any gas over this amount costs $250 per 1,000 m3, according to experts. According to the Ministry of Energy, the price of the Azerbaijani commercial gas is around $260 per 1,000 m3. According to the Ministry of Finance, in 2015, Azerbaijan provided Georgia with 2,084 million m3 of natural gas for the average weighted price of $148.6 per 1,000 m3. According to Gazprom, in 2013, Russian gas was provided to Europe for the average price of $304 per 1,000 m3, and to former Soviet countries for $224. As of October 2015, the price of Russian gas (on the German border) is $212 per 1,000 m3. Price indicators for different countries clearly illustrates Russia’s political attitude to different countries. For example, Russia’s “friends” such as Belarus and Armenia receive natural gas for $166 and $189, respectively. Ukraine, on the other hand, which confronted Russia, had to pay $485 for 1,000 m3 of gas in 2013. As of 2014, the price of gas remained the same for Armenia and Belarus, whilst the price for Ukraine was reduced to $268, as an exchange for when then President Yanukovich refused to sign the Association Agreement with the EU; the price then increased again to $468 after the Maidan events got rid of Ukraine’s pro-Russian Government. Considering this information, the average price of Russian gas will likely not be less than the Azerbaijani price for gas. However, if Russia through Gazprom decides to provide Georgia with natural gas for the same prices it gives it to Belarus or Armenia, or even less, it would be a political, -- not commercial -- price. Given this, there are legitimate questions emerge for the Government of Georgia. The government knows the technical aspects of the existing infrastructure from before, so it’s also unclear why the government is now unprepared to face a problem it could have expected and why it didn’t take steps several years ago to prevent it becoming a problem. It’s already planned to construct a gas storage station for balancing short-term inconsistencies in demand-and-supply, however, it’s also unclear why the construction of this gas station was not planned earlier. It is also questionable why the search for finding a solution to the problem began with talks with Gazprom, whilst meetings with Georgia’s main existing strategic partner were only held post factum – and even after finding out the SOCAR leadership found a possible solution to the existing technical problem in it’s capacity. That the Gazprom negotiations were held under secret circumstances causes additional uncertainty. Neither the Georgian public nor energy specialists were informed about the topic of the negotiations, or that they were even being held in the first place.
"Mr. Mamedov also explained that SOCAR is the commercial operator of the BP-owned Shah-Deniz pipeline, and can adjust the volume of gas discharged by this pipeline in the summer and winter seasons in order to fill the deficit"
One of the most important aspects of the negotiations – Gazprom wants to substitute paying the Armenia transit fee not with gas, but in cash – was only made public after the most recent meeting between Mr. Kaladze and Gazprom. As already noted, Georgia receives 10% of the gas transited to Armenia as a transit fee. The amount of money that Russia would pay as a transit fee instead of in gas is not known yet; however, the pipeline is short and so the reimbursement is expected to be low as well, based on international practice. Hence, Georgia would be unable to purchase the same volume of natural gas it would usually receive in gas reform with the transit fee money. It has always been in Gazprom’s interest to change this aspect of the contract, but Georgia has managed to keep the existing terms. Energy Minister Kaladze says that at this stage, Gazprom is putting Georgia an ultimatum: if Georgia rejects the terms, they will provide Iranian gas to Armenia. The discharge rate of the pipeline from Iran to Armenia is under 1 billion m3, while Armenia’s consumption exceeds 2 billion m3. Increasing the discharge is possible to up to 2-2.5 billion m3, however it is a long process. In the current situation, when there is no alternative source for fully providing Armenia with natural gas, the Georgian side has the leverage to leave keep the contract terms unchanged. To conclude, despite being in full possession of all this information, the Government of Georgia has been unable to prepare for this situation where the country’s total consumption of natural gas has reached the critical threshold that the infrastructure can provide. Without an exploitable gas storage station, it’s then become necessary to purchase additional volumes of gas from Gazprom, which has allowed the Russian side to put additional requirements on the table and request a revision of the transit terms. This problem emerged in 2015, and the government found an easy and temporary solution: We received half of the gas that we were to receive in the 2016 quota, but this, in turn, increased the gas deficit for the current year even more. That the government made contradictory statements about the talks, that they made them secret and did not communicate with the public is another major issue as well.