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South Stream is not dead – rather it has morphed into a new project which is part of a complex commercial power play on the part of Russia and Turkey, writes Anca Elena Mihalache, Senior Analyst with the Romanian think tank Energy Policy Group. According to Mihalache, the new South Stream, if it happens, will offer new opportunities to Europe, but also new threats. In particular, the EU will see its diversification strategy come under pressure as Azerbaijan and potential Central Asian suppliers are likely to be squeezed by the Moscow-Ankara alliance. Mihalache describes the balancing act the EU must now enter upon.
The demise of South Stream came to many as a surprise, though chronicle of a death foretold would be a more appropriate depiction. Already in August 2014, Euractiv cited an article by Russian journalist, Oleg Makarenko, published by Vzglyad newspaper, , claiming that Gazprom had a “Plan B” to reroute South Stream through Turkey, towards Greece, if European resistance to the project did not falter. He developed the scenario after Russian President Vladimir Putin stated in a meeting with media representatives on 24 May 2014 that Russia is willing to find non-European states to transit gas to Europe.

Moreover, Makarenko quoted Turkish Energy Minister Taner Yildiz as saying that Ankara would allow South Stream to reach Turkey, instead of Bulgaria, under the Black Sea, should that be needed. This means that talks between a sanction-ridden-yet-careful-planner Moscow and an economic-gains-focused Ankara have been ongoing since at least August.

What this also means is that essentially we are not so much dealing with the death of South Stream, as dramatically announced by Gazprom CEO Alexei Miller, as with what has been dubbed a South Stream 2.0. The new version of the pipeline is free from the headache of dealing with capricious Europeans when it comes to pipeline construction, but can still bring gas to European markets, while at the same time saving the money that Gazprom would have had to spend on building pipelines on European territory. Thus it benefits from the ultimate advantage of keeping Europe dependent on Russian gas while at the same time bypassing Ukraine.

Winners and losers

So who are winners and who are the losers in this new configuration and what is their game?

To start with Russia, the self-appointed commander-in-chief in any gas-related Eastern European scenario, it looks as though it is continuing its divide-and-conquer strategy for the European gas markets. After trying very hard to pit European Member states against one another with South Stream, it has decided to move its game outside the Union and deal with what it sees as a more approachable state (Turkey) and a weaker opponent (Azerbaijan).
As always, Russia is probably also thinking long-term with its decision to further push for even more gas exports to Europe, as it is likely trying to prevent both Kurdish and Iranian gas from ever becoming a serious competitor on the European markets – which could be the case if a deal between Erbil and Bagdad is reached and sanctions against Iran are lifted.
But this does not mean Russia holds all the winning cards. For one thing, what Moscow has at present is only a signature on a Memorandum of Understanding, with no legal force. To cite Azeri researcher Ariz Huseynov, there are a lot of questions that still need to be answered:

o what will a thorough assessment of the project show?
o how is Gazprom going to deal with Europe´s Third Energy Package that it has so adamantly opposed when its gas reaches Europe at the Turkish-Greek border?
o which pipelines are going to be used in order to carry the Russian gas further from the Turkish-Greek border?
o and not least, who is going to pay for the new pipeline, since Gazprom is widely affected by sanctions, Western banks are not allowed to finance it, while Arabic or Chinese banks have no stake in the matter?
All of these mean that the realization of the new South Stream should not be taken for granted. Moreover, as Huseynov puts it, the new project could be just a diversionary manoeuvre for Russia to show both domestic and international audiences that it has not completely failed, but that it´s merely substituting one project for the other.
Apart from these considerations, Russia must also keep in mind that Turkey is no Bulgaria or Ukraine that Moscow can push around or use as a captive transit state. Ankara has already negotiated a 6% discount on the price of gas as of 1 January 2015 and has secured an extra 3 bcm/year for the Blue Stream pipeline. These elements of negotiation, along with Turkey´s decision to substitute European products with Turkish ones on the Russian market after sanctions were put in place, as well as its choice for Rosatom to build the first Turkish nuclear plant, all point to the fact that Ankara is more interested in short and medium term economic gains than in realpolitik.

Dangerous game

If it plays its game right, Turkey stands to gain. It will get large volumes of Russian gas at low prices, along with pipeline infrastructure built in cooperation with foreign investors, which will help its ambition of becoming a regional gas hub. Indeed, this would give it more clout in negotiating with Europe on membership, if that is still something that Turkey wants. After all, Turkish Prime Minister Ahmet Davutoglu pledged recently that he would speed up Turkey´s EU accession talks. It seems, therefore, that European membership and trans-Atlantic economic cooperation are still on Ankara´s agenda, regardless of its plan to increase its current $33 billion trade volume with Russia to $ 100 billion by 2020.

But gains mean more than just economic profit, and what Ankara is now playing is a dangerous game. The biggest risk comes not from upsetting Europe, but alienating NATO partners, at a time when peace in the Middle-East seems more and more elusive. Another risk is a further loss of faith of the Turkish population in its leaders, along with what is basically an abandonment of Crimean Tatars to Russia. After all, protests in Ankara and Istanbul that accompanied Putin´s visit to Turkey were meant to promote solidarity of the Turkish people with Crimean Tatars.

Turkey also risks damaging its previously rock-solid relation with Azerbaijan, likely the biggest loser of the entire affair. Just like the original South Stream was designed to thwart Nabucco, South Stream 2.0 serves, among other purposes, to put a dent into Baku´s zeal in selling its Shah Deniz II gas to Europe. Sure, the Trans-Adriatic Pipeline (TAP) will, most likely, still happen – according to Joe Murphy, VP Southern Corridor at BP, the full capacity of 16 bcm has been sold already for the next 25 years. Still, this does not mean those gas sales are written in stone. After all, contracts for Turkmen gas through the Trans-Caspian Pipeline were also signed a few years back, with little chances of any of the gas ever coming online. For TAP, a lot will depend on the concrete market conditions.

As energy security expert Radu DudÄfu notes, if both TAP and South Stream 2.0 come to deliver gas, it will be in TAP owners´ interest to allow Russian gas (also coming to the Turkish-Greek border, at likely lower prices than Azeri gas) into TAP. Transporting larger volumes (of both Russian and Azeri gas) further to Europe will diminish overall network costs for TAP operators.
TAP, which is now exempt from the unbundling rules of the Third Energy Package could, therefore willingly renounce its exemption in order to increase its profits. Aleksei Grivaci, Deputy Director of the Russian National Energy Security Fund, already announced at the beginning of the month, that Gazprom could use the Trans-Anatolian Pipeline (TANAP) instead of South Stream in order to transport Russian gas to Europe, since the pipeline is designed for a 30 bcm/year capacity, while Azerbaijan can only supply up to 15 bcm/year.

Baku´s market share in the EU might thus come under threat and Azerbaijan might no longer have an assured gas deal from European customers. Since things are likely to play out by market rules, as well as European legislation, there´s not much that Turkey could do in order to guarantee Azerbaijan a privileged position of diversification source for the EU, despite statements from the Turkish Energy Minister that TAP and TANAP are still important projects for Ankara. Therefore, Turkey´s major shift from transporter of non-Russian gas to Europe could take its toll in relation to Azerbaijan.

Political burden

On the opposite side of the equation, Europe too stands to lose, albeit not for the loss of South Stream, as Moscow would have one think. After keeping a strong stance on its Third Energy Package, along with a strong hand in dealing with South Stream supporters inside the EU, Brussels is finally free of the political burden that South Stream had become. The call of Mr. Junker, the new European Commission President, to denounce Russia´s game of blaming Bulgaria was a good one and should serve as a starting point for renewed solidarity among Member States. The loss for Europe, however, will be to its diversification strategy, if South Stream 2.0 is indeed to fuel European gas markets, as intended by Gazprom.

Moreover, Europe needs to show strength and resolve if it is to keep Baku on board. Azerbaijan is still vulnerable to Russian influence, for example in its Nagorno-Karabakh conflict with Russian-backed Armenia; therefore the EU must show that it is still a reliable partner for Baku, willing to further support its European path – though, again, it is to be seen if this is still something that Baku wants in the aftermath of the crisis in Ukraine.

Another, even more likely loss for European diversification is that of Central Asian gas through the proposed Trans-Caspian Gas Pipeline, as part of the Southern Gas Corridor. Both Turkmenistan and Kazakhstan will find little incentive for dealing with what will become an even more stubborn Russia when settling the status of the Caspian Sea in order to allow construction of the pipeline on its seabed. With China all the more interested in Central Asian resources, what we will probably witness is even further distancing of Central Asian states from Europe.

All, of course, is not lost and what we are dealing with at this stage is mere scenarios and speculation. But all of these are issues that Europe must factor in when building its response to Russian tactics. The new Commission will be walking a thin line while having to balance a weak, but very determined Russia, a set of disgruntled Member States, a crafty Turkey set on making economic gains and a vulnerable Eastern Europe and South Caucasus – while all the while figuring out the best solutions for European energy security.

Anca Elena Mihalache is an Energy Policy Group Senior Analyst
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