EU must use antitrust law to reduce its dependence on Russian gas The competition case against Gazprom

For years the EU has tried to use international trade agreements and political agreements to prevent Russia from taking advantage of Europe’s dependence on Russian gas. That strategy has failed. It is time now for the EU to apply its own market principles to Gazprom’s activities in Eastern Europe and to start antitrust proceedings against the Russian company. There is no reason to treat Gazprom differently from Microsoft or other companies.

Gazprom headquarters in Moscow
Article Highlights:
- Gas markets in many Central and Eastern European countries are to a large extent controlled by Gazprom. The Russian gas monopolist does not only supply these countries with most of their gas, it also owns or controls local intermediaries and gas distributors.
- Gazprom has abused its market powers by cutting off gas supplies to EU member states even though it had no direct quarrel with them.
- So far, the EU has relied on the hope that it could discipline Gazprom through international agreements and institutions such as the Energy Charter Treaty (ECT) or the World Trade Organization (WTO), but this approach has clearly failed.
- It is time for the EU, therefore, to treat the gas markets in Central and Eastern Europe like any other market and institute antitrust proceedings against the market players in those countries that have a too dominant position.
The main source of gas supply disruptions in the EU in the last years has been Gazprom. Gazprom has a dominant presence in most markets in Eastern Europe. The monopoly gas exporter of Russia not only supplies up to 100% of some of these countries’ markets, it is also invested heavily in national gas companies in these countries as well as in many intermediary gas trading entities. Thus, most markets in the region are locked into a one-way relationship with Gazprom.

Bulgaria, for instance, has a state-controlled gas sector that is fully dependent on imports from Russia. The intermediary in the market (i.e. between Gazprom and the local gas monopoly) is Topenergo, which is a subsidiary of Gazprom. Slovakia is also 100% dependent on imports of Russian gas.The Slovakian market is dominated by the monopoly distributor and network company SPP, a joint venture between the Slovak government and Slovak Gas Holding. The latter is a Netherlands-based consortium co-owned by Eon Ruhrgas and Gaz de France. Gazprom has a 6.4% share in Eon Ruhrgas and maintains close ties with the German company. SPP has recently signed a new long-term supply contract with Gazprom. It is therefore hardly surprising to find that Bulgaria and Slovakia were totally unprepared for the three-week long gas cuts in January 2009. Of all EU member states they were least able to respond effectively.

The Baltic States have also been victims of gas supply disruptions since their independence from the former Soviet Union. Here too, the incentive structure in their small isolated markets is biased in favour of Gazprom. In Estonia, Gazprom holds a 37% stake in Estonia’s national gas monopoly Eesti Gaas. Other shareholders include Gazprom-partner Eon Ruhrgas (33.66%), Itera (9.85%), which also has links to Gazprom, and Finland’s Fortum Oy. A similar pattern can be found in Latvia: 34% of the national gas monopoly Latvijas Gaze is owned by Gazprom, whilst the rest of the company is co-owned by the same Eon Ruhrgas and Itera.

The recent attention-grabbing antitrust cases launched by the EU Commission against the big energy majors in France, Italy and Germany highlight the fact that such dominant market players do not invest sufficiently into import capacity, and at the same time preclude others from doing so. In the ongoing GDF Suez case, the Commission suspected the company of ‘closing off competitors from access to gas import capacity into France’ 1. In Italy, the Commission suspects ENI of ‘capacity hoarding and strategic underinvestment in the transmission system’ 2. Why shouldn’t such things also be occurring in Central and Eastern Europe? And why shouldn’t the Commission deal with those markets in the same way that it does with similar situations in western European markets?

Why the EU has avoided ‘treating Gazprom like Microsoft’ – as Chancellor Angela Merkel put it to then President Vladimir Putin a few years back – remains an open question. The analogy with Microsoft is to some extent misleading, however. One needs to look at the local gas companies. To file a case against Gazprom as a whole makes no sense. But scrutinising the actions of local, often Gazprom-invested monopolies, does. Although, say, the Latvian and Slovakian markets are small and their companies operate locally, this shouldn’t prevent Brussels from acting: the structure of their market is overly trade-restrictive and prevents the EU’s Single Market from functioning.

Missed opportunities

The most effective tool to foster the type of competition required to boost investment in gas infrastructure and interconnections between the EU’s national energy markets has so far proven to be ‘full ownership unbundling’, i.e. the full dismantling of the current energy giants into separately owned trading and infrastructure companies.

Hungary has recently made that choice. In 2007 it fully unbundled its gas monopoly MOL. Immediately, investment into storage capacity and pipeline interconnections with neighbouring countries soared. This explains why Hungary was more resilient than others during the three-week January 2009 gas crisis, as the European Commission discovered when it investigated the matter last year. Hungary benefited from its interconnections with Austria, Germany and other markets to fill the gap left by the Russian-Ukrainian cuts.

The famous Energy Package of 2009 offers the opportunity for member states to adopt ‘full ownership unbundling’. Yet, unfortunately, only a minority of EU countries have indicated that they want to take this route. Estonia, Latvia and Finland are even explicitly exempted from any unbundling provisions. Most new member states will adopt the so-called Third Option, which only requires changes in company management structures but does not alter the ownership structure. It is very likely that under this framework market-restrictive behaviour will continue.

A new legislative package is not likely to be proposed let alone ratified anytime soon. The policy focus of the EU should therefore be aimed at disciplining the behaviour of the incumbents. This means it should use antitrust policy to improve competition and stimulate investments. In particular it should penalise abuse of market dominance, which is explicitly prohibited by EU law.

Antitrust action

Antitrust can be an important means to encourage competition in domestic gas markets and thus greater investment in infrastructure.

As the EU Commission’s Energy Sector Inquiry has shown, vertically integrated oligopolies or monopolies are structurally inclined to restrict access to their transmission networks by new entrants. Generally, they prefer long-term exclusive supply contracts  –  and in the case of Eastern Europe this means supply contracts with Gazprom. This reduces the possibility for new market participants to sign supply contracts. This in turn reduces incentives for other foreign investors to enter the new EU member states’ markets. Worse, as the case of ENI currently under investigation shows, such oligopolies can even actively restrict investment to maintain their grip on the home market.

Shutting off the gas taps can represent ‘abuse of market dominance’. This is an example of what is called under EU antitrust law ‘unfair trading conditions’. Supply disruptions by a dominant market player to dependent customers that have not, for their part, breached any contractual obligations, have good chances of being ruled illegal, and therefore lead to fines.

So far, Russian supply cuts to Central and Eastern European member states have not been instigated by Gazprom on the grounds that these countries did not respect their contractual obligations. Rather, they were seen by Gazprom as as the solution to political problems or to unrelated contractual issues with third parties. There is at this moment no commercial sanction against such behaviour. The typical Central and Eastern European gas intermediary in which Gazprom often has a stake, has no choice but to contract with Gazprom. This is also the case for the domestic national monopoly that has to deal with this trader or with Gazprom Export directly, not least due to the long-term supply contracts that tie both sides together. Add to this the insufficient incentives to diversify supply sources or store gas for emergencies, and a country may be left with total reliance on a dominant supplier. This supplier can renege with impunity on its contractual obligations.

The disciplining effect of potential antitrust measures on Gazprom can also be indirect. If a domestic gas monopoly (with no participation of Gazprom as investor) is found to abuse its dominant position and is obliged to open investment and alternative supply opportunities, competition in the domestic market is likely to rise. There will be more alternatives to Gazprom as supplier, which is likely to discipline its behaviour as it will need to step up efforts to satisfy its customers.

An antritust case might also have the additional effect of discouraging Gazprom from shutting off gas supplies. Indeed, in some countries where Gazprom has shares in domestic incumbent companies, it is likely to be affected by any potential (and as yet hypothetical) fine. This is likely to raise the opportunity cost of using gas cuts in its commercial decisions

A new approach

So far, the EU’s strategy towards Russian energy market behaviour has relied on the hope that international rules and institutions such as the Energy Charter Treaty (ECT) or the World Trade Organization (WTO) would foster a rules-based international economic integration. It has also believed that negotiating a bilateral Partnership Agreement and potentially even a free trade agreement would lock Russia into the EU’s rule-of-law approach to commerce. This strategy has not borne fruit, however, not least because of Europe’s peculiar dependency on Russian gas. With a unified gas market however, this vulnerability would be reduced and resilience in case of a crisis improved. With a unified market, the EU is more likeley to speak ‘with one voice’ to Russia. The EU now needs to work from the bottom up and apply the market principles it advocates to Russia as well.

The EU’s policy response to its rising dependence on Russian gas imports and to Gazprom’s monopolistic and abusive behaviour, has been to try to force countries to store more gas, subsidise investments in interconnectors, support the Nabucco pipeline, invest in alternative energy sources, and promote energy efficiency. All this makes sense. There are, in fact, many arguments in favour of stepping up these policies. But none of them will ever be truly effective if the underlying market structure remains as monopolised as it is.

Gazprom is active in other EU markets where competition conditions are better, such as the Netherlands. These situations do not lead to problems. This means that the presence of Gazprom in EU markets is not a problem per se, as long as the markets are competitive and well regulated.

In fact, Gazprom is likely to benefit from greater competition in the EU. The gradual but yet incomplete liberalisation of EU markets achieved so far has posed a dilemma for the Russian gas giant. Thanks to the effects of already growing competition in parts of Europe, spot trading and short-term gas sales are likely to constitute an ever greater share of the gas market. This will be to the detriment of the current market model based on long term contracts with domestic monopolies. Therefore, on the one hand, there is an incentive for Gazprom to participate in such trade.  This allows it to exploit margins between its marginal costs and short-term spot prices. On the other hand, it is exactly this short-term trading that contributes to permanently lower gas prices, which is not what Gazprom wants under its current business model, particularly not as the company is becoming increasingly inefficient. The undermining of long-term supply contracts also tends to diminish the bilateral leverage Gazprom – and by extension the Kremlin – has over individual EU member states.

Yet Gazprom’s business model is currently under strain. The company has lost significant revenues during the crisis. It is faced with the necessity of making huge new investments to upgrade its aging infrastructure. And it is being forced to loosen its grip over its cheap Central Asian suppliers, after gas-flush Turkmenistan recently opened a pipeline towards China. Forceful implementation of the EU’s own Single Market tools might well stimulate Gazprom to decide once and for all to ‘play along’ and operate on a fair and competitive basis in EU markets. After all, the EU will remain its main export outlet for many years to come.

So let’s hope we can look forward soon to the first antitrust case in Central or Eastern Europe!

  1. EU Commission, ‘Antitrust: Commission market tests commitments by GDF Suez to boost competition in French gas market’, IP/09/1097, 8 July 2009. See also ‘Antitrust: Commission opens formal proceedings against Gaz de France concerning suspected gas supply restrictions’.  MEMO/08/328, 22nd May 2009.
  2. EU Commission, ‘Antitrust: Commission initiates proceedings against the ENI Group concerning suspected foreclosure of Italian gas supply market’, MEMO/07/187,  11 May 2007

Iana Dreyer (iana.dreyer @ecipe.org) is Analyst at the European Centre for International Political Economy in Brussels.

She is co-author of ‘The Quest for Gas Market Competition-  Fighting Europe’s Dependency on Russian Gas more Effectively’. Available on: http://www.ecipe.org/the-quest-for-gas-market-competition