A Drop in the Bucket
Russian President Dmitry Medvedev's visit to Azerbaijan last week concluded with the signing of a gas supply deal between the two nations.
The agreement will double gas present Azeri exports to Russia in 2011 to two billion cubic metres of gas, with a further increase set in 2012.
Demand in Europe, the biggest export market for Russia's gas monopoly Gazprom, has been on the recent decline. Russia re-exports the gas it buys from Azerbaijan and increasing purchases of Azeri gas means that domestic production will fall proportionately and Gazprom will be negatively impacted.
So, what is the point of securing huge volumes of gas supplies when market dynamics are less than attractive?
Quite simply - strategy.
"It is much more expensive for Russia to buy gas from Azerbaijan than to produce it domestically, but the more it buys from Azerbaijan, the less others can buy," said Pavel Sorokin, an oil and gas analyst at Alfa Bank.
Mikhail Korchemkin, head of East European Gas Analysis, says that exporting 2 bcm of Russian gas gives Gazprom about $200 million in profit and brings the state $160 million in customs duties as European consumers pay, on average, 70 percent more for Russian gas than domestic customers do.
"Russia is purposefully missing out on $360 million a year by paying market prices for Azeri gas. The idea is to prevent Europe from buying the gas so it cannot diversity its supplies away from Russia," Korchemkin said.
Russia's deal with the Azeri’s and its willingness to take much higher gas volumes for its South Stream pipeline project are steps taken to strengthen its hold on the European gas market and to attempt to impede the progress of South Stream’s competitor, the EU backed Nabucco pipeline..
"Our contract has no upper limit on the volume of gas supplies from Azerbaijan," said Gazprom chief Alexei Miller.
"This [contract] means that Azerbaijan is giving priority to Gazprom for the expansion of natural gas exports to Russia," Miller said, citing Russia's territorial proximity and existing gas pipelines.
Nabucco, which plans to transport up to 31 bcm of gas a year from the Caspian region to an Austrian gas hub via Bulgaria, Romania, Turkey and Hungary in hopes of reducing Europe's reliance on Russian gas, has been not been about to secure supply contracts to date.
Russia hopes that its recent move will mean continued difficulties for Nabucco.
$360 million annually is a drop in the bucket when a much larger game is in play.