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Baltic pipe – FAQ

01.06.2017 | By Paweł Musiałek

What is the project of the Baltic Gas Pipeline with Norway? Will the gas station in Świnoujście provide us with energy independence from Gazprom? What are the prospects for realizing the vision of Poland being the main gas hub of Central Europe? We present you a complete FAQ on Poland’s energetic independence answering on these and others questions appeared in your minds.

1. What are the main assumptions of the Norwegian pipeline project?

The government of Beata Szydlo adopted the concept of building the so-called Corridor / North Gate which is an alternative route of gas supply to Poland, as a priority in the field of gas policy. The concept consists primarily of two components: the expansion of the LNG terminal in Świnoujście and the construction of the Baltic Sea Pipeline to Norway via Denmark.
The latest draft of the Norwegian pipeline has been significantly modified compared to the previous version of the Baltic Pipe that was created many years ago. It currently consists of five components: the gas pipeline connecting the Danish gas system to the gas pipeline through which Norway exports gas to Western Europe; Plans to expand existing gas pipelines in Denmark and to build gas depots there; The pipeline linking Denmark with Poland (“Baltic Pipe”) and the expansion of the Polish transmission system, allowing for the distribution of this gas across Poland.

2. What will be the significance of this connection for Poland?

The PiS government, after taking over in 2015, defined the need to enhance the security of supply by diversifying not only the transmission routes, but also the gas source itself, as a priority in gas policy. In the opinion of the authorities, it makes a significant difference, because the diversification of supply routes through the construction of the connections between neighboring countries does not constitute a full supply guarantee – in a crisis, understood primarily as a cut off of the Russian gas supplies for the whole region, Poland will not have the guarantee that neighboring states will have enough gas to meet the needs of Polish consumers. The response to this problem was getting direct access to an alternative gas source.
Due to the fact that the only country outside Europe that has the potential for gas exports is Norway, the Norwegian deposits, also because of their geographical proximity, were naturally considered as a strategic alternative to the raw material purchased from Gazprom.

It is worth stressing, that the need to strengthen energy security is not due to the theory, but to the difficult practice of gas cooperation with Russia. One of the most frequently discussed issues in the public debate, is the possibility of cutting off supplies and the consequences of such an occurence. Although such situations have already taken place all over Poland, it is worth emphasizing that there are also other reasons for new connections. First and foremost, the key argument for building interconnectors (interstate gas pipelines enabling trade) is strengthening the position in negotiations with Gazprom, which would result in obtaining attractive prices for raw materials and achieving targets in other spheres (eg transit rates for Russian gas transit, the impact on EuroPolGaz, the owner of the Yamal pipeline). The weak position in negotiations with Russians also results in the lack of effective tools for enforcing agreed rules of cooperation.

3. Why haven’t we built this connection (yet)?

The current project “Baltic Pipe” is already the third attempt to build a pipeline to Norway in the history of our country. The first one ended in failure in 2001, when a signed contract for the purchase of Norwegian gas expired due to the lack of will to implement it on the part the Leszek Miller’s government. The SLD leader justified his decision by stating that gas from Norway was more expensive than the Russian gas. The supporters of the Norwegian gas responded to this argument claiming that a long-term investment would pay off, as it would strengthen the negotiating position in relation to Gazprom, which would in turn bring measurable economic benefits. Miller’s second argument was that outside Poland, there was no willingness to import Norwegian gas, which was a prerequisite for the Norwegian contract because the volume of gas that Poland was interested in was too small to make the gas pipeline profitable. Critics responded that there were no recipients of Norwegian gas in the region, because Miller was not seeking them. Finally, the third argument of the the Polish government was the high volume of gas contracted from Russia, which limited the demand for additional raw material. Prime Minister Miller pointed out that as a result of lower consumption than had been assumed at the time of the signing of the Yamal contract in 1996, there was not much room for the use of Norwegian raw material, as evidenced by the need to renegotiate a contract with Gazprom which was made in 2003 by Mark Pol. And here are the counterarguments. It was pointed out, that it was possible to reduce Russian imports to the minimum possible level, to temporarily reduce domestic production or to look for opportunities to export gas.

The second attempt was being made since 2007 by the Law and Justice government. At that time, PGNiG joined the project and took a 15% stake in the consortium building the Skanled pipeline, which was to transfer gas from Norway to Sweden and Denmark, and would extend the pipeline to the Baltic Pipe from Denmark to Poland. The Skanled project was suspended in April 2009, which changed the context of the Baltic Pipe project. Polish operator OGP Gaz System made the continuation of the project conditional on the EU grant. However, after receivinhg the grant from Brussels, Gaz System did not treat this investment as a priority, mainly due to the development of other diversification projects, until 2016, although the project was included in the list of planned projects already in the previous years.

4. Is the connection with Norway the first diversification project in the history of Poland?

The activities aimed at strengthening energy security have not started with the Baltic Pipe concept, nor they come down to this idea. Already at the beginning of the 1990s, we built the first gas connection with Germany in Lasów, although it was of minor importance, as the pipeline capacity was barely 0.9 billion cubic meters (compared to 16 billion cubic meters of annual gas consumption), which did not allow this interconnector to be treated as an alternative to eastern connections, through which we receive gas from Gazprom (about 9-10 billion m3 annually).

At the end of the 1990s, the Yamal gas pipeline was completed, which was not a diversification of supply sources, but a diversification of transmission routes as the gas continued to flow from the east. Until then, Poland had been receiving this raw material on the Polish-Belarusian border at Wysokoje and Polish-Ukrainian border in Drozdowycz. After the Yamal transit gas pipeline had been constructed, we were able to receive gas at the pickup points in Lwówek and Wloclawek, which was very important, because it made us partly independent from the Russian-Belarusian and Russian-Ukrainian gas conflicts, which often hit Poland indirectly. The importance of the Yamal pipeline for the security of supply did not come down only to becoming independent from Kiev and Minsk, or increased technical possibilities of testing the gas from the east (not only from Russia, because we also imported gas from other former Soviet republics such as Turkmenistan) or gaining income from transit.

Poland’s accession to the EU and the development of the European Commission’s legal instruments for building a common EU gas market have forced the German operator to create the possibility of reversing the flow of gas that had so far flown from east to west. The launch of the so-called reverse on the Yamal pipeline, first the virtual one in 2011, and then, thanks to investments by the German gas operator Gascade, the real one in 2014, gave the opportunity to acquire gas from Germany, which was pumped through the Yamal gas pipeline (physically it was already received in Poland, but officially went to Germany and from there run back to Poland).

The creation of the reverse was a milestone in strengthening Poland’s energy security. Although the gas received through the reverse is still the Russian gas in the sense of origin, it is, in a commercial sense, a gas originating in the EU. Reverse offers the possibility of accessing gas from the Community market, which is characterized by a different pricing formula (the market price based on the game of supply and demand for raw material, and therefore not indexed to the price of crude oil), allowing in recent years to purchase raw material at a lower price than the one at which PGNiG buys gas from Gazprom.

Thanks to the expansion of entry points to the system in Lwówek and Włocławek in 2016, the Yamal gas pipeline allows for an increase of gas supplies from the east to 8.3 billion cubic meters and an increase in volume from Germany (Mallnow entry point) to 5.5 billion cubic meters on continuous basis, whether Yamal gas pipeline flows to Germany, and as much as 11.1 billion m3 on interruptions (ie when the gas flows from east to west). This quantity is not big enough that allow for a full replacement of supplies from Russia, but it allows for the reduction of gas imports from Russia to the minimum level provided for by the Yamal contract.

The importance of the reverse for energy security was most visible in the winter season 2014/2015 when, as a result of the reduction in deliveries from Gazprom, PGNiG was forced to replenish supplies from the German market, mainly through the reverse of the Yamal pipeline. As a result, the Russian blackmail was ineffective, and PGNiG additionally purchased the missing gas at a more attractive price than the one offered by Gazprom, so it made a considerable profit on this deal. Although unlike big infrastructure projects such as Baltic Pipe and Nord Stream, the reverse has never gained the attention of the media and the public, one may say that it was a “game changer” not only for increasing energy security, but also for setting up Polish natural gas market, which had been monopolized by PGNiG. The increase in technical possibilities for gas imports from Germany has increased competition and the need to adjust gas prices in Poland to prices on the German market. In addition to creating the possibility of reversing supplies in 2011, the connection in Lasów was expanded from 0.9 billion m3 to 1.5 billion m3. In 2012, the capacity of the connection to Czech Republic in Cieszyn was increased (up to 0.5 billion m3 per annum). After expanding the connection in Lasów, launching a connection in Cieszyn and creating a virtual reverse service on the Yamal pipeline, the technical possibilities of transporting natural gas to Poland from directions other than the eastern ones increased in 2011 by about 3.3 billion cubic meter which constitutes 30% of gas import to Poland.The real revolution was yet to come.

The construction of an LNG terminal in Świnoujście with a capacity of 5 billion m3 per year, which was completed in 2015, was a strategic investment from the point of view of energy security.
The investment costing over $ 3.5 billion provides the opportunity of purchasing gas from the international LNG market, which increases energy security through the access to gas from many liquefied gas exporting countries. This is particularly important for the process of increasing LNG supply in the global market as a result of increased shale gas production and increasing the capacity of export terminals, mainly the United States and Australia. The LNG Terminal in Świnoujście also offers the possibility of using price arbitrage, since the price of LNG is differently priced than the price of Russian gas or the one purchased on the Community market. The most important benefit, however, is the strengthening of the negotiating position in the process of negotiating the supply of natural gas in the future. This is illustrated by the example of Lithuania, which, after launching the so-called “floating” type (FRSU) received a significant price discount from Gazprom. The importance of strengthening the negotiating position is confirmed by Gazprom’s strategy of market segmentation and diversification of raw material prices in Western and Central Europe, as demonstrated by the antitrust proceedings of the European Commission. The role of the terminal in Świnoujście as an argument in price negotiations with Gazprom is thus significant.

In April 2017 Gaz System decided to increase the capacity of the LNG terminal in Świnoujście to 7.5 billion cubic meters by increasing the existing SCV regasifier system by additional units.

 5. Will Norwegian gas be more expensive than Russian?

We do not know yet, because neither the final cost of the gas pipeline nor the price of Norwegian raw materials are known. One should bear in mind that it is the national gas system operator which is responsible for gas pipeline construction and its management , but it is PGNiG and other trading companies which are responsible for purchasing gas and selling raw materials to individual customers. We should soon know the cost of infrastructure, which will be paid for jointly by the operators – Danish Energinet.dt and Polish Gas System. The Danish operator has already published a preliminary cost estimate of € 1.61-2.15 billion, of which over 50% will be paid for by the Polish side. The price of gas will be announced only after the contract is signed by PGNiG, as it will want to make the investment cost-effective for operators. The determination of the Polish side to obtain gas from Norway may cause the price proposed by Statoil to be not low at all, but it should not divert significantly from the price of the raw material listed on the West European markets and should therefore not be higher than PGNiG brings gas from Russia.

The problem, however, is not that we do not know what the price is, but that … we will never know it precisely. PGNiG is a publicly traded company, so the contracts are protected by trade secrets.

Company’s management not only do not want, but can not disclose such information. Just as we are condemned to guessing the cost of obtaining gas from Russia, we will be doomed to guess the cost of the Norwegian gas. It should be borne in mind that even if stock market analysts are able to identify probable price spread by working them out them on the basis of different assumptions, the evaluation of the contract should take into account not only the price of the raw material, but other items and clauses that are also secret.

6. Will the Norwegian gas pipeline make Poland a gas hub for Central Europe?

The concept of gas hubs is often blurred and used in many contexts, so first of all we need to answer what we mean by “hub”. Most people use this term in the sense of “the state that makes profit on sending gas.” In this sense, the hub is understood as Poland’s position as a transit state not only on the east-west axis, but also north-south, which would enable our country to obtain significant revenue from being a place to trade in gas. Such an interpretation of the gas hub is also present in government information which defines both the acquisition of gas for our own consumption and the export of gas southward through the North-South Corridoras as essential goals of the Northern Gate idea. Can Poland become a transit country for Norwegian gas and LNG imported thhrough the terminal in Świnoujście? Will Czech, Slovakian, Hungarian and even Balkan companies buy gas from Poland?

It is important to keep in mind that the key determinant of this idea is the attractiveness of gas price rather than its origin. Without the attractive price offer new gas pipelines will be empty. This should be emphasized, because Polish gas debate is not dominated by a market-based perspective, where e gas is considered from economic point of view, but by the perspective of energy security, which makes investment in infrastructure, market shape and contracts contingent on a geopolitical context that heavily modifies purely economic calculation. From the point of view of Poland’s energy security often (but not always) such a perspective is justified, but from the point of view of achieving the objectives of the government’s economic policy, including the expansion of Polish gas enterprises and others where the cost of obtaining gas is crucial for market competitiveness it may turn out to be counterproductive.

It must also be stressed that the unprecedented development of gas infrastructure throughout the region, as well as further EU energy security support instruments (infrastructure funds, crisis mechanisms, anti-monopoly proceedings, elimination of illicit contract clauses) contributed the increase in the sense of energy security in the region. When we juxtapose this fact with a different perception of the Russian geopolitical threat, which has come to light when discussing the EU sanctions for Russian actions in Ukraine, then we will understand why the slogan of energy security does not evoke such emotions in Central European states as it does in Poland.

Although statistics continue to show that Russian gas is the dominant source in almost all Central and Eastern European countries, the expectation that, for this reason, these states will want to buy more expensive gas, but not from Russia, is wrong because they often do not share Poland’s perspective on the international situation.

In order to realize the idea of Poland as a gas hub, the cost of importing gas from our market must be competitive in relation to the price for which companies from our region can import gas from Russia, the German market or another source. This will happen only when commercial contracts signed by PGNiG with companies from Russia and Norway will be competitive in relation to the contracts signed by other gas companies. At present, both the price of gas purchased from Gazprom and in particular from Qatargaz are higher than the prices on the Western European market, which slightly undermines the concept of foreign expansion of PGNiG . The question about the situation in the market after 2022 when the Yamal contract ends still remains open. By then, the construction of the Norwegian gas pipeline should result in much more favorable conditions for gas imports from Russia after 2022, so if the Norwegian contract is attractive, then the prospect of a foreign regional expansion of PGNiG is open.
However, despite the contracts signed by PGNiG and the construction of the Norwegian gas pipeline, the development of the Polish gas market constitutes a very important barrier in the creation of the gas hub. At present, the Polish government clearly implements the concept of protecting the Polish market from competition and promoting the interests of the Polish gas “champion”. This idea has its advantages such as great financial results of PGNiG, but it also raises costs. The policy of protectionism weakens the interest of foreign companies in the Polish market and prevents the opening of other markets to PGNiG or other Polish gas companies. This applies especially to Czech or Slovak partners who, due to the current government’s gas policy, are not interested in the deepening of cooperation. If the Polish government really thinks that Poland should become a hub for gas trading in Central and Eastern Europe, it must make the Polish blue raw material market more liberal, which will also generate some costs.

In international trade relations no one will agree to cooperate with in a”We will not let you in, but you let us in” manner. We need to treat our neighbors as partners, not as customers.

7. Will the construction of the Nord Stream 2 pipeline affect the decision to build a Norwegian gas pipeline?

Undoubtedly, both projects somewhat compete with each other. Both NS2 and the Baltic Gas Pipeline are not only to respond to the domestic needs of German and Poland respectively, but are built in order to export gas and to the markets in Central and Eastern Europe. The main extension of the NS2 gas pipeline is the EUGAL pipeline, which is to run along the western Polish border, parallel to the OPAL gas pipeline and supply gas to both Poland and other countries in our region. It should be emphasized that the scale of projects, and therefore export ambitions, is incomparable, as the capacity of NS2 is to be five times larger than that of the Baltic Gas Pipeline, so the negative impact of NS2 on the export potential of Poland is much higher than the reverse.

Thus the construction of one gas pipeline will affect the profitability of the other.

The competitiveness of these projects means that it is in Polish interest to block this investment. However, this argument should not be used directly by Polish decision makers, since the competition for markets is already allowed in the EU, and other arguments against NS2 are considerable (from geopolitical to antitrust), but it is worthwhile for the Polish public opinion to be aware of it.

It is important to emphasize, however, that while the completion the Baltic Gas Pipeline is more likely, as the government is very determined to build this connection and NS2 continues to undergo political pressure on the part of the Member States and the EU institutions, NS2 has a considerable market advantage. The high liquidity of the German market, the support from Russia and the attractive contracts for German gas companies, mean that if both projects came into being, the chances that, for example, it will be cheaper for the Czech Republic to import gas from Norway rather than from NS2 are very small. Under ble circumstances, deliveries could be attractive only to Ukraine and maybe Slovakia, but it is not certain.

8. Do we still need additional diversification projects when establishing a connection with Norwegian deposits?

Bearing in mind the current possibilities of gas import, forecast consumption and the implementation of the Norwegian gas pipeline project, it should be assumed that the state of Poland’s energy security will be satisfactory as we will have sufficient bandwidth capacity to neutralize possible energy blackmail from the gas suppliers. Consequently, all subsequent gas pipeline projects should be evaluated primarily through the prism of the economic account criterion,ie further projects should be built only when there is market demand for additional infrastructure. Overcaling the investment into new gas pipelines would imply the need to increase gas transmission fees, which would increase gas bills for customers in Poland.
Accordingly, the additional projects that are part of the “Northern Gate” concept, ie the construction of another LNG terminal in Świnoujście, as well as the construction of another LNG terminal in the vicinity of Gdansk, as announced in the Prime Minister Szydlo’s expose, are very controversial. While the decision to increase the capacity of the terminal in Świnoujście to 7.5 billion cubic meters by increasing the existing SCV regasifier system by more units is understandable because it does not require costly investment work, the construction of additional gas reservoirs is problematic due to the high cost of building new infrastructure without adequate benefits. Bearing in mind the planned expansion of transmission capacity, it can be said that the new infrastructure would unlikely be used to justify construction.

It should be noted that the LNG terminal in Świnoujście is not very popular with trading companies (so far it is only used by PGNiG), which have a cheaper alternative in terms of access to gas on the Polish and German markets and for this reason it would be difficult to the recipients of its services. It should be emphasized that the construction of the FRSU terminal, according to the latest Gaz System messages, is intended to be an alternative to the gas pipeline connection with Norway. If in fact the terminal is merely an alternative to the Norwegian gas pipeline, then this strategy is understandable because it increases the negotiating position with the Norwegians, who, seeing the Polish government’s determination to build the Baltic Gas Pipeline, could put forward excessive demands regarding the sharing of investment costs.

 Translation: Magdalena Stawicka

International_Visegrad_Fund,_emblemo_bluaThis text was created thanks to support of International Visegrad Found.

Photo: public domain (http://m.gospodarkamorska.pl)

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