If you think the conflict in Ukraine is mainly about ethnic nationalism in a backward corner of Eastern Europe, you have not been paying attention. Within hours of the publishing of plans by the European Commission for an EU Energy Union, the Russian president delivered a threat: Gazprom will cut gas supply to Ukraine if the bill is not paid in three or four days.
For good measure and to ensure that Brussels was listening, President Putin added: "Of course, this could create a certain problem for [gas] transit to Europe to our European partners." Pipelines traversing Ukraine deliver Siberian gas into Eastern and Central Europe. But the prospect of billions of dollars of unpaid gas bills being settled is remote without a cash injection from the EU. We can therefore expect a resumption of the intermittent gas wars between Ukraine and Russia that first erupted when Gazprom cut off supply in January, 2009, causing sudden losses of gas pressure in transit pipelines as far afield as Austria, Italy and Hungary.
You might think the Russian president is using the gas lever to squeeze the fingers of the independent-minded government in Kiev. But the territorial squabble in Eastern Ukraine is a sideshow in the great energy game being played out between Russia and the EU.
Russia remains the biggest energy supplier to Europe; it accounts for 30 per cent of European demand for natural gas and a third of the EU's crude oil imports. During the Cold War and up to the collapse of the Soviet Union, energy trade was regarded by the Kremlin as purely economic. Contrary to what one might have expected, exports of gas and oil were not politicized until after the collapse of the Communist regime. It was President Putin who first sought to exploit the dependency of Europe on Russian energy exports, first by extending Gazprom's reach into Western markets with pipeline and marketing investments intended to raise its market share and pricing power. Latterly, it has moved aggressively to gain control over its gas transit routes via contract disputes with the bankrupt gas distributors in Ukraine.
However, dependency works both ways and Russia is now paying the price for its reckless energy realpolitik. Russia's biggest export earner is caught in a pincer, squeezed from one side by the oil and gas price collapse and pressured on the other by an aggressive political and legal challenge from the European Commission.
This week, the European Commission published its framework proposal for an Energy Union. It is a plan for the wide-ranging co-ordination of energy policy on matters ranging from energy conservation measures and CO2 reduction to diversification of supply and energy security measures. It will seek to bring down the borders between EU member state energy markets, open the door to smart grids and consumer shopping for energy in neighbouring countries.
That may sound worthy but a close reading tells a different story. The EU Energy Union is squarely aimed at ending Gazprom's strategy of divide and rule: its practice of negotiating long-term exclusive deals with national gas importers, carving up markets, favouring friendly states and punishing dissidents with high prices. Moreover, the first two action points of the Energy Union are the strict implementation by member states of the EU's competition rules and a drive to diversify gas supply to Central Asia and North Africa with pipeline extensions as well as enhancing liquefied natural gas storage.
This is nothing less than a declaration of war against Russia's domination of European energy markets and it is no surprise that President Putin sees it as such. If he had any doubts, he might ask Gazprom's president, Alexei Miller, of the tenor of any recent discussion with Margrethe Vestager, the European competition commissioner. A two-year investigation into allegations that Gazprom has abused its dominant market position in several EU countries is reaching its conclusion. Within weeks, she is expected to launch formal accusations against the Russian company. It could lead to big fines, but the larger threat is that the company will be forced to change its behaviour, to become transparent and competitive in its pricing, to subject its contracts to the rigour of EU competition law.
Meanwhile, Gazprom's income is plummeting due to a sharp fall in sales volumes which have been crimped by weakening demand and efforts by EU member states to seek out new gas suppliers. In the third quarter of last year, Gazprom sold six billion cubic metres less gas to Europe, a decline of 15 per cent, due in part to warm weather. The drop in the oil price is expected to do worse damage this year with the Russian economy ministry forecasting a 35-per-cent fall in gas export prices to Europe. Gazprom's long-term contracts are indexed to the oil price and the effect of the recent collapse in crude oil will begin to affect Gazprom in the spring.
The utility giant earns half of its income from European exports and it contributes 8 per cent of the Russian government's revenues. The country can ill afford an energy war with the EU, a conflict with the potential for far greater and more expensive consequences than those that might flow from Russia's backing of the separatist rebels in Ukraine. President Putin has chosen to link the two disputes; it is a reckless strategy that could eventually lead his country to economic ruin, a much worse outcome than humiliation in Ukraine.
Carl Mortished