OAO Gazprom, Russia’s state- sponsored gas monopoly, is offering to buy all of Libya’s oil and gas exports in a bid to increase its dominance over Europe’s gas market and enhance Russia’s political clout throughout the region.

Alexei Miller, Gazprom’s chief executive, made the offer on July 9th at a meeting with Libya’s head of state, Muammer Gaddafi.

"Libya positively evaluated Gazprom’s proposition to buy all future volumes of gas, oil, and [liquefied natural gas] designed for export at market price," Gazprom said in a statement after the meeting.

A member of the Organization of Petroleum Exporting Countries, Libya produces 1.7 million barrels of oil each day. The country had total proven oil reserves of 41.5 billion barrels in 2007, and about 53 trillion cubic feet of proven natural gas reserves. Its oil and gas industries earned Libya more than $40 billion in revenue in 2007.

Years of political isolation have left the country underinvested (only a quarter of Libya’s oil reserves are covered by exploration agreements), but since dismantling its nuclear weapons initiative, Libya has been courted by a large crowd of energy players, each with their own interest.

Gazprom, which controls 25% of Europe’s gas supply, is looking to strengthen its position as a supplier by seizing control of a possible alternative. Western interests are seeking to diversify away from the unreliable Gazprom, which has routinely jacked prices and cut off supplies to the region as a means of exerting political leverage over its customers.

Last year, Gazprom threatened to cut off gas shipments to Belarus, and the energy giant followed through with similar threats against the Ukraine as recently as March of this year. It was the second time in as many years Gazprom cut gas shipments to the Ukraine, which in 2006, installed a pro-Western government in Kiev.

Now that Libya has emerged as a possible alternative to Russian supplies, President, and former Gazprom chief, Dimitry Medvedev is picking up where Prime Minister Vladimir Putin left off in attempting to corner the market.

In April, a month before Putin vacated the office of presidency, he made a final stop in Libya where he agreed to write off $4.5 billion in Libyan Cold War-era debt in exchange for military and civilian contracts for Russian companies.

A memorandum of cooperation between Gazprom and Libya’s state energy conglomerate National Oil Corporation (NOC) was one of ten trade, investment and political agreements reached during President Putin’s two-day visit to Tripoli.

By May, acting president Medvedev had already made two trips to Central Asia hoping to secure business in a gas-rich region that includes Azerbaijan, Turkmenistan, and Kazakhstan. 

Medvedev "wants to use Russia’s largest conglomerates as a tool of foreign policy," Nick Day, chief executive officer of Diligence LLC, told Bloomberg News. "What he’s looking to do is to buy oil, gas and mineral resources around the world."

With that leverage "you can stop states from joining NATO, and you can act as a counterweight to the U.S.," Day said.

Both the Ukraine and Georgia are trying to secure membership in the North American Treaty Organization. Gazprom doubled the amount Georgia pays for natural gas in 2006 as the country’s newly elected President, Mikhail Saakashvili, declared his intention to boost ties with the West and join NATO.

"The Kremlin wants Gazprom to be a dominant force in global energy, and the dominant force in global gas," Chris Weafer, chief strategist at UralSib Financial Corp. told Bloomberg. "Tying up gas resources in Central Asia and Africa is part of that." The plan is for Gazprom to dominate "in every corner of the planet," he said.

Related Articles and Links:

• Bloomberg:
  Gazprom Libya Bid Imperils Moves to Curb Russia’s Energy Clout

• Financial Times:
  Gazprom offers to buy all Libya’s gas

• Money Morning:
  Qatar Funnels $8 Billion Into a Resurgent Libya

• Money Morning:
  Russia Turns to Libya to Tighten Grip on European Energy Supply

• Money Morning:
  Gazprom and Ukraine Resolve Dispute

• Money Morning:
  New Pipeline Subverts U.S. Efforts to Diversify Gas Supply

Europe breathed a sigh of relief Wednesday, as OAO Gazprom and Ukraine settled an ongoing dispute over the fate of the continent’s natural gas supplies.

Ukraine will pay the $600 million debt demanded by Gazprom, and the Russian oil monopoly will restore deliveries of gas to the country in full. Gazprom had reduced supplies to Ukraine by half after the country reneged on a deal reached Feb. 12.

Governments throughout Europe became extremely concerned when Ukraine threatened to siphon off gas supplies in transit to other parts of the region, and the International Energy Agency called Gazprom’s move to cut supplies "excessively harsh." Russia supplies a quarter of Europe’s gas supply, and 80% of that passes through the Ukraine.

Sign up right now, and we’ll send you an important new report for free: "The Three Best Investments in Asia." Money Morning subscribers receive in-depth news and expert investment advice daily, free of charge.

Russia has a well-documented history of using its oil and gas exports as political bargaining chips and Gazprom has been all too willing to jeopardize Europe’s gas supply for its own gain.  But it was Ukrainian Prime Minister Yulia Tymoshenko who refused to go forward with an accord reached between Ukrainian President Viktor Yushchenko and former Russian president Valdimir Putin, and abolished Ukranian intermediary Ukrgazenergo.

"It was absolutely crazy," Jonathan Stern director of gas research at the Oxford Institute of Energy Studies, told the Financial Times. "This is not what grownups do. Grownup people with big contracts don’t suddenly abolish counterparties," he said.

Tymoshenko frequently challenges Gazprom’s influence in Ukraine’s domestic gas market, and has repeatedly clashed with the policies of President Yushchenko. Whether future sales will be made direct or through a joint venture has not been determined. Nor have the two sides resolved disputes about how much Ukraine will pay for Russian gas supplies going forward. Russia has more than tripled the price it charges Ukraine for gas since 2005.

News and Related Story Links:

• Financial Times:
  Kiev and Gazprom end standoff

• Money Morning:
  Gazprom to Cut Gas Shipments to Ukraine in Half, Putting European Supplies in Peril

OAO Gazprom, Russia’s state-owned oil monopoly upped the ante in its ongoing dispute with Ukrainian policymakers yesterday (Tuesday), when it threatened to cut natural gas supplies to the former Soviet satellite by half, a move that has disturbing implications for the rest of Europe.

Gazprom reduced natural gas deliveries to Ukraine by one-quarter Monday, saying the country has failed to pay $600 million in gas bills for the year. Gazprom also said that Ukraine’s state energy company, Naftogaz Ukrainy, failed to sign contracts for the supply of gas this year. Gazprom has refuted accusations from Naftogaz that the reduction of natural gas supply from Russia was closer to 35%.

After Ukrainian officials failed to turn up for planned talks aimed at ending the pair’s supply dispute, Gazprom threatened to cut supplies by another 25%, reducing the total amount of natural gas to the Ukraine by half.

"Due to the lack of progress in negotiations and Naftogaz’s failure to sign gas supply contracts – including for January and February – gas supplies to Ukraine will be reduced by an additional 25% at 1700 GMT [12 p.m. EST]," Gazprom spokesman Sergei Kuprianov said in a statement.

In response, Naftogaz Ukrainy accused Gazprom of violating basic "principles" in relations between nations, and that it could only guarantee natural gas delivery to the rest of Europe as long as Ukraine’s energy security is stable.

"Naftogaz Ukrainy reserves the right to adopt adequate and asymmetric actions to defend the interests of its consumers," the company said in a statement.

The speed at which the dispute has intensified has raised eyebrows in many European nations concerned their gas supplies will be affected. 

"This represents a very severe escalation of the rhetoric and has moved both sides much closer to the brink of a truly serious disruption," Geoffrey Smith, deputy head of research at Renaissance Capital Ukraine told Bloomberg News.

About 80% of Russian gas supplies to Europe pass through the Ukraine, which puts Naftogaz in a position to siphon off supplies intended for other customers throughout Europe. In January 2006, Russia cut supplies to Ukraine completely for a period of three days causing gas volumes across Europe to fall, as Ukraine scrambled to satisfy its demand.

With such disputes becoming commonplace, Europe has sought to build pipelines from Central Asia to reduce dependence on Russian gas, while Gazprom is laying plans of its own for a direct route to Western Europe, avoiding transit nations such as Ukraine.

Politics at Work

Relations between Russia and Ukraine fell apart in 2005 when Viktor Yushchenko took office in the Orange Revolution. Since then, Yushchenko has sought to steer his country from the former Soviet Union towards the European Union and NATO. Meanwhile, Russia has more than tripled the price it charges Ukraine for gas.

Gazprom first threatened to reduce gas supplies to Ukraine on Feb. 7, just two days after the country was welcomed into the World Trade Organization. Yushchenko and then President Vladimir Putin came to terms on Feb. 12, averting a Gazprom gas cut just hours before the deadline.

Both parties agreed Ukraine would pay $1.5 billion in debt accrued this year and last. They also agreed that two controversial middlemen – RosUkerEnergo and UkGazEnergo – would be replaced by a 50-50 joint venture between Gazprom and Naftogaz.

However, Gazprom insists Ukraine owes another $600 million for 19 billion cubic meters of Russian gas it received without a contract. The oil giant also wants Ukraine to approve the creation of the two new companies set to replace RosUkerEnergo.

Yulia Tymoshenko, the Ukrainian prime minister, says the Ukraine has fulfilled its obligations and accused RosUkerEnergo of running up debts for $4 billion cubic meters of gas.

Ukrainian First Deputy Prime Minister Oleksandr Turchynov said in a statement yesterday on the government Web site that Gazprom has failed to pay for transit shipments to Europe since December. 

News and Related Story Links:

• Wall Street Journal:
  Gazprom Plans Further Cuts To Ukraine Natural-Gas Supply

• Financial Times:
  Gazprom steps up Ukraine gas war

• Bloomberg:
  Ukraine May Curb Gas Exports to EU on Gazprom

• Money Morning:
  New Pipeline Subverts U.S. Efforts to Diversify Gas Supply

• Money Morning:
  EU Presses for More Energy Control

• Money Morning:
  Belarus Assuages EU Fears; Agrees To Pay Part of Gazprom Debt

In a story that underscores the risks investors face with emerging-markets investments, OAO Gazprom, Russia’s energy giant, is up to its old tricks and is once again threatening to cut gas supplies to the Ukraine, in an effort to extort payment, Bloomberg News reported.

It’s an issue that Money Morning has reported on extensively before.

Gazprom supplies 25% of Europe’s gas and is now threatening to curtail exports to the Ukraine over a $1.3 billion debt. The company warned the European Commission and consumers that it would take action unless the debt is settled by the end of the month. Gas supplies throughout Europe declined in a year and a half ago when Gazprom froze the Ukraine out the first time and negotiated a higher price.

And no one wants a repeat performance.

Troubles don’t end at the Ukraine either. Gazprom threatened to cut off gas supplies to Belarus in August. That dispute was resolved when Belarus paid $190 million of its $456 million debt. Threats and corresponding actions like these have made every nation in the European Union wary of Gazprom, and impelled them to seek out alternatives.

In September, the European Commission introduced a plan calling for a massive restructuring of power grids throughout the continent. The plan was designed to reduce the region’s vulnerability to massive energy companies that control the production and transmission of gas and electricity.

The Commission offered two options to proceed with a version of deregulation that it has labeled as "ownership unbundling." The first would force energy companies to sell off their transmission networks. The second would require companies to retain their respective transmission networks, but lease them to fully autonomous operators. The Commission also called for an independent EU energy agency to oversee national regulators.

The measures are clearly an attempt by the European Commission to safeguard the continent against Gazprom. Gazprom has clearly been agitated by accusations of impropriety and malfeasance. According to Bloomberg, after the commission signaled its intention to propose legislation on ownership unbundling, Gazprom Deputy Chief Executive Officer Alexander Medvedev called the plan "the most absurd idea I have ever met in the history of the world economy."

Regardless Gazprom’s power-play shenanigans have attracted the attention of the United States as well. A few months ago, Reuben Jeffery, the under-secretary at the state department for economic, energy, and agricultural affairs, traveled to Russia with the hopes of addressing some of these issues.

Jeffery commented on the failure of other nations in the region to work around Russia saying, "The objective as we talk about alternative routing systems is to create legitimate market-based competition, and to develop some redundancy in the system in the event of legitimate physical breakdown, or other political issues that might arise that might lead somebody to cut off supply."

It’s no secret just who that ‘somebody’ is.

With every price hike and subsequent threat from Gazprom, the company becomes less credible. Still, there isn’t much that Europe or the United States can do right now. Europe is heavily dependent upon Russian energy, and as the EU heads into the cold-weather months, that dependence is only going to increase. Until Europe cultivates alternative energy supplies from Africa and Central Asia, Gazprom is going to keep bullying the continent, and especially its weaker dependents, including Belarus and the Ukraine.

News and Related Story Links:

• Money Morning News:
  Belarus Assuages EU Fears; Agrees To Pay Part of Gazprom Debt.

• Money Morning News Analysis:
  EU Presses for More Energy Control.

• Bloomberg News:
  Gazprom Warns Europe of Possible Ukraine Supply Cut.

Last week, (July 20) Chevron Corp. said it would challenge a $290 million back tax claim issued against the Caspian Pipeline Consortium by Russia’s Federal Tax Service.  This is yet another attempt by President Vladimir Putin to seize control over all aspects of energy production and transportation within Russia.

The Caspian Pipeline Consortium is a group of international interests who operate a pipeline that transports Kazakh crude through Russia to markets elsewhere. The pipeline runs 935 miles from the Tengiz field in Kazakhstan to Novorossisk on the Black Sea. Chevron Corp. owns a 15% stake in the venture while Exxon Mobil Corp. owns 7.5% and the governments of Kazakhstan and Oman own 19% and 7% respectively.  However, it is the Russian oil monopoly OAO Transneft, which owns the largest piece of the pie, a 24% stake acquired in June.

Currently, decisions concerning the pipeline’s operation are reached by consensus, but state owned Transneft has attempted to persuade the pipeline’s other governing bodies to instead leave decision-making in the hands of a simple majority shareholder vote. This would give the company, and the Russian government, far more control over the pipeline. Failing in that effort, it now seems the country will resort to strong-arming the consortium members with its Federal Tax Service.

Russia, which is the world’s largest energy producer, has a history of using such tactics to manipulate foreign owned energy projects and usurp their authority.  The Federal Tax Service is the same agency that ran OAO Yukos Oil Co. formerly one of the world’s largest private oil companies, out of business after demanding more than $30 billion in back taxes.

Last year, OAO Gazprom, another state owned energy giant, agreed to buy 50% plus one share of Royal Dutch Shell Plc’s Sakhalin-2 oil and gas project for $7.45 billion. The deal was the culmination of a yearlong campaign in which the Russian government threatened to block Sakhalin-2’s investment plans and cancel building permits on environmental grounds.  This furthered President Vladimir Putin’s goal of gaining total control over Russia’s energy industry.

Last month, Russia put enough pressure on BP Plc. to convince the company to sell one of the World’s largest gas fields, the Kovytkta field, to Gazprom. BP’s local joint venture, TNK-BP, sold its 62.8% stake in the field after Russian authorities threatened to revoke the company’s license to develop it. 
Also as part of the deal, BP was “compensated” with inclusion in a $3 billion joint venture that will help take Gazprom worldwide. If the venture is successful TNK-BP could be rewarded with the opportunity to buy 25% of the Kovytkta field back.  Really, the arrangement is an attempt to coerce BP into helping Gazprom grow from a strictly Russian company into a global market giant. This will allow Russia, and Putin, to use its position as an energy provider as leverage in diplomatic negotiations.

Gazprom: Russia’s Ambassador to Europe

For evidence of just how heavily Russia relies on its state-owned energy corporations in foreign policy, look no further than a deal recently reached between Gazprom and France’s Total.  The company was chosen after five years of deliberation to help Gazprom develop a large offshore gas field in the Arctic. The project is estimated to cost $20 billion and is expansive enough to satisfy the entire world’s oil demand for an entire year. 

Together, Gazprom and Total will create a special-purpose company to organize the design, financing, construction, and operation of the Shtokman project’s phase one infrastructure. The company created will own this infrastructure for 25 years. Gazprom will maintain a 51% stake in the company and Total will be awarded 25% ownership. 

After the completion of phase one operations, Total will relinquish its share to Gazprom.  All of the reserves will belong to Gazprom as well.  Gazprom would just as soon do the entire job itself, but it is heavily reliant on foreign funding and lacks the expertise required to extract oil from a reserve located 984 feet below the surface of the Barents Sea, more than 370 miles off the coast of Murmansk. Additionally, the deal gives Russia another strategic foothold in European politics.

Of all the companies vying for Gazprom’s favor, Total was, by most accounts, the least likely champion. However, the decision was more political than practical. Russia, i.e. Putin, has a history of striking sweetheart energy deals with European countries with the end goal of turning their national energy companies into lobbyists for Moscow’s commercial and political agenda. This deal with Total is just the latest in a series of European joint venture deals that includes projects in Germany, Italy, and Great Britain.

The deal also comes at a time when France has recently elected a new president in Nicolas Sarkozy. Some have suggested that Sarkozy might take a harder line than his predecessor Jacques Chirac, but by offering a lucrative deal to Total, Putin has seized the opportunity to strike first and court France’s favor. 

Putin’s Foreign Policy Gets America’s Attention
Russia’s use of energy exports for diplomatic leverage as well as its intimidating arsenal nuclear weapons has, not surprisingly, rubbed Washington the wrong way.

Last week, Reuben Jeffery, the under-secretary at the state department for economic, energy, and agricultural affairs, traveled to Russia with the hopes of addressing some of these issues. 

“It’s no secret there have been some adjustments to contractual terms of pre-existing energy production and development arrangements that are troubling and we want to have a dialogue on this topic.” Jeffery said in an interview with Financial Times.

The U.S. has repeatedly encouraged nations like Kazakhstan and Turkmenistan to build a pipeline west, across the Caspian Sea to Turkey, in the hopes of circumventing Russia and providing central Asia with access to the world’s gas markets.

The announcement that Russia, Turkmenistan, and Kazakhstan recently agreed to build a natural gas pipeline across central Asia to Russia, further tightening Putin’s grip over energy routes out of the region, came as a huge blow to that effort.

Jeffery commented on the failure of other nations in the region to work around Russia saying, “The objective as we talk about alternative routing systems is to create legitimate market-based competition, and to develop some redundancy in the system in the event of legitimate physical breakdown, or other political issues that might arise that might lead somebody to cut off supply.”

That someone in question is Vladimir Putin who through Gazprom cut off gas supply to the Ukraine after the nation refused to pay quadruple the amount it previously paid for Russian gas.  The rest of Europe, which relies heavily on Ukraine for the transit of Russian fuel, felt the effects of the 2006 dispute as well. 
Hungary, Poland, and Austria reported that gas piped to them from Russia through Ukraine slowed down as much as 40%. French Utility Gaz de France SA reported a decline of 25%-30%. This is exactly the kind of occurrence that has U.S. lawmakers riled up and determined to find solutions. 

What’s Next For U.S. – Russia Relations

In 2006, a bipartisan taskforce was created with the specific goal of addressing the current diplomatic relations with Russia.  The task force was sponsored by the Council on Foreign Relations, and chaired by former Vice Presidential nominees John Edwards and Jack Kemp.

The report, titled Russia’s Wrong Direction: What the United States Can and Should Do noted that, “The political balance sheet of the past five years is extremely negative. The practices and institutions that have developed over this period have become far less open, pluralistic, subject to the rule of law, and vulnerable to the criticism and counterbalancing of a vigorous opposition or independent media.”

The report also addressed specific areas of concern including:

• De-Democratization: The report refers to the country’s political institutions as “corrupt and brittle,” saying “Russia’s capacity to address security concerns of fundamental importance to the United States and its allies is reduced. And many kinds of cooperation – from securing nuclear materials to intelligence sharing – are undermined.”
• Energy Supplies: “Russia has used energy exports as a foreign policy weapon: intervening in Ukraine’s politics, putting pressure on its foreign policy choices, and curtailing supplies to the rest of Europe.  The reassertion of government control over the Russian energy sector increases the risk this weapon will be used again.”
• Diplomatic Relations: “A country that has, in the space of a single year, supported massive fraud in the elections of its largest European neighbor and then punished it for voting wrong by turning off its gas supply has to be at least on informal probation at a meeting of the world’s industrial democracies.”

Russia and its president have responded in kind, taking the opportunity to slam the U.S. and its foreign policy on three separate occasions since May.  Putin has accused the U.S. of “hegemonic behavior,” as well as “neo-imperialism,” and provoking an arms race.

Unfortunately, the United States could struggle to curtail Russia’s aggressive foreign policy and that may be part of the reason for its emergence. It’s possible that Putin senses a little bit of blood in the water and suspects that the America is, perhaps, stretched too thin. 

The U.S. is embroiled in conflict in the Middle East, going back and forth with Iran over the ambitions of its nuclear program and bogged down and seemingly out of solutions in Iraq.  Several flare-ups have occurred with China in recent months and countering its economic and political growth spurt looks to be a long-term venture. Meanwhile, the dollar is falling and some believe its status as the world’s main reserve currency is in jeopardy. 

Lost in the shuffling of U.S. foreign policy priorities could be an oil-rich nation whose GDP grew 6.7% in 2006 and whose economic growth rate hit a six-year high of 7.9% year over year in the first quarter of 2007.  With so much on the plate of the United States, the question the rest of the world is left with is “Who’s going to stand up to Russia?”

Belarus eased some of the tensions with Russian oil-and-gas giant, Gazprom, Friday, by paying off part of its debt. Belarus has reportedly paid $190 million of its $456 million dept to Gazprom.

The deal was a source of major relief throughout the European Union.

The Gazprom-Belarus disagreement started over a supply contract negotiated by the two parties last year. Under the terms of the deal Belarus was to pay $100 per 1,000 cubic meters of gas, more than double the previous rate of $46. Belarus was allowed to pay only $55 per 1,000 cubic meters for the year’s first half, a stipulation meant to give its economy time to adjust.

However, the deal still required payment of the full $456 million by July 23. Belarus defaulted on the payment and has been stalling in the hopes of landing a more economical deal. At one point, Gazprom threatened to cut nearly half of Belarus’ gas supply, which made the rest of Europe very uncomfortable.

In the midst of a similar dispute in 2006, Gazprom resorted to cutting off gas supplies to the Ukraine. As a result, the country siphoned gas off a transit pipeline – literally leaving the rest of the continent out in the cold. Amid fears that Europe was in for a repeat performance, a meeting of gas experts from the European Union’s 27 member nations was called, but has since been cancelled.

If the issue does escalate, Belarus would be in position to siphon gas from pipelines carrying one-fifth of Russia’s gas exports to Europe – even though Gazprom assured EU officials that Europe’s gas supplies would be unaffected by this spat.

At this point, however, it seems unlikely the conflict will get that far out of hand. With virtually nowhere else to turn for energy, Belarus will likely have to give in, despite having made an honest attempt at renegotiating its existing agreement and achieving a lower price. Kommersant, Russia’s online daily newspaper, reported on Saturday that Belarusian President Alexander Lukashenko “promised to find the $460 million needed.”

Gazprom currently supplies a quarter of Europe’s gas supply. The state-owned oil and gas monopoly has repeatedly been exposed as a state-run tool for leverage. Many experts say that these alarming situations are a consistent reminder that Europe is all too dependent on Russia as a key energy supplier. And Russia is all too willing to exploit that dependence, these analysts say.